Question

Why would a nation “dollarize”—that is, adopt another country’s currency instead of having its own? By the way, this isn't a theoretical question. Ecuador and a handful of other countries have done this. Why would they do this? What are the pros and cons of this strategy?

Answer 1

Generally speaking, any country would want to dollarize mostly because transactional costs would be lower and that would mean the trade sector benefits from having a foreign currency which is established in the global markets.

Pros of dollarization :

• Reduction of administrative costs - The country doesn't need to manufacture their own money and hence no need for managing and producing their local currency.
• Financial sector for the country that adopts the foreign currency is stronger as efficiency increases along with quality of services.
• Lower interest rates for borrowers from the country that adopts foreign currency, which might already be stable and established   

Cons of dollarization :

• Monetary autonomy of the country that adopts foreign courency is given up
• The capacity to create their own money ( seigniorage) is potentially forfeited by the country
• In cases of financial crisis, where the central bank could control monetary policy by money supply, this benefit is also forfeited by the country that dollarizes.