There are three related meanings
(i) a currency unit derived by taking the value of a basket of currencies or other financial instruments used for accounting purposes in international and trans-national organizations. The best known such unit is the European currency unit (ECU) used in internal European Commission Accounting, which is based on a weighted basket of the currencies of the member states of the European Union. Note that the ECU is not the same as the Euro (€), which before its debut as a hard currency was also based on a similar weighted basket of the currencies of each of the countries that adopted it at its launch.
(ii) a notional currency sometimes used in long-term international contracts where there is a risk of currency instability, or in international contracts where the parties each want the contract to be denominated in their domestic currency or principal currency of disbursement or revenue (i.e., the currency in which they pay for inputs or their customers typically pay them). Typically, the definitions portion of the contract defines the currency unit in relation to a basket of currencies, for example
“One Payment Unit = one United States dollar (US$1) plus one Euro (€1) plus one hundred Japanese Yen (¥100).”
A currency for the payment of amounts set under the contract is set (e.g., United States Dollars or Euros) and usually on the payment date, the amount in “”Payment Units”” is converted to a real currency amount in that currency of payment. The weighting of the currencies in the basket is usually varied in the negotiation of the contract. The advantage of using a synthetic currency is that the contract thereby hedges against fluctuations in hard or actual currency values; the disadvantage from an accounting perspective is that the sum to be paid and received under the contract is uncertain. One alternative to using synthetic currency is forward hedging of accounts receivable or payable. However this practice can be:
(b) require a high degree of sophistication;
(c) present significant risks; and
(d) be difficult to do beyond the medium term (i.e., more than six months to a year into the future). Indeed, the longer-term the hedging, the more expensive it becomes.
(iii) a type of financial derivative created by options traders and used in hedging or by hedge funds. It consists of a basket of financial instruments that may be various real currencies, but may also include other asset instruments such as gold or other commodities, or option contracts.