Monday, July 19, 2004
Most of the reason the new notes were printed was because 1. the high inflation of Iraq in the mid-1990s (when total dinar circulation rose from 22 to 584 billion old dinars) made doing business in the predominantly small denomination notes unwieldy, 2. to get rid of currency with Saddam's portrait, and 3. to prevent counterfeiting. (10,000 dinar notes were widely suspected of being counterfeit, so they traded at a discount.) There does not appear to have been any attempt to rein in the total number of dinars printed.
Hal Varian pointed out last January that there was an interesting phenomenon in trading between the "print" dinar (Saddam) and the Swiss dinar that circulated in the Kurdish north. (It's called "Swiss" because that's where the printing plates were engraved.) The Swiss dinar was exchanged for the new dinars at a rate of 150-to-1 to the print dinars. He points to this paper by Mervyn King of the Bank of England which includes a quite detailed discussion. The exchange rate is at a premium to what one might call the "purchasing power parity" rate between the two currencies (King cites a Central Bank of Iraq study that "128 Saddam dinars to the Swiss would equalise the wages of an engineer in the two parts of Iraq, 100 would equate the price of the shoes he wore to work, and 133 the price of his suit"), but that this was just probably justified since in the currency exchange many holders of the 10,000-print-dinar notes would find out their bills were fakes. But that exchange process is now over, and as this graph below shows (from King's paper) the value stabilized above 150.
But not for long. Soone after the conclusion of the the currency exchange, the dinar appreciated, most likely because there were no longer any of the counterfeit print dinars in circulation. The Central Bank of Iraq's data (here for 2003, here for 2004) has auction rates since the new currency was announced:
Now that we're done with the lesson, let's come back to Mitch's and Dembo's question: why would you buy these dinars at 1050-1100 when their market rate is at 1460? It seems quite unlikely. Between the Swiss dinar information and the removal of the war/counterfeiting discount that was present in October, I think a fall below 1000 is not in the cards. The best case one can make is the revival of the new Afghani when they unified currencies in 2002, when the currency rallied from 60,000 old afghanis to 46,000, but that would be comparable to the move from 2000 to 1400 drawn above. Bosnia isn't a comparable case since their currency is freely convertible to euros; I do not believe there to be a plan for Iraqi dinars to be convertible (though see Steve Hanke and Matt Serkerke fmi.) Unless the government can somehow free the economy quickly and secure the value of the currency --perhaps by tying the value of the dinar to a barrel of oil -- I would expect a drift towards depreciation. Hanke believes, under current conditions, "the only thing the Iraqi dinar is likely to hit is a wall."