The Optimal Level of International Reserves for Emerging Market Countries: Formulas and Applications
IMF Working Papers, October 1, 2006
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- The Optimal Level of International Reserves for Emerging Market Countries: Formulas and Applications
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Bibliographic details
- Authors: Romain Ranciere, Olivier D Jeanne
- Published: October 1, 2006
- Series: IMF Working Papers
- DOI: https://doi.org/10.5089/9781451864892.001
Summary and Model
- Presents a model of the optimal level of international reserves for a small open economy vulnerable to sudden stops in capital flows.
- Role of reserves in the model:
- Allow the country to smooth domestic absorption in response to sudden stops.
- Yield a lower return than the interest rate on the country's long-term debt.
- Main analytical outcome:
- Derives a formula for the optimal level of reserves.
Key Findings and Quantitative Points
- Plausible calibrations of the model can explain reserves "of the order of magnitude observed in many emerging market countries."
- The recent buildup of reserves in Asia "seems in excess of what would be implied by an insurance motive against sudden stops."
- Publication metadata and numeric identifiers:
- Pages: 33
- Volume: 2006
- Issue: 229
- Series: Working Paper No. 2006/229
- Stock No: WPIEA2006229
- DOI: https://doi.org/10.5089/9781451864892.001
- ISBN: 9781451864892
- ISSN: 1018-5941
- Date of publication: October 1, 2006
Policy-Relevant Implications
- Reserves as insurance:
- Reserves provide insurance against sudden stops by enabling absorption smoothing.
- The cost of holding reserves arises from their lower return relative to long-term debt interest rates.
- Reserve adequacy assessment:
- The model and calibrations offer a framework for assessing reserve adequacy grounded in sudden-stop risk and the return differential between reserves and debt.
- Observed reserve levels in many emerging markets can be rationalized by the insurance motive modeled.
- However, exceptionally large reserve buildups (notably in Asia) may exceed levels justified solely by insurance against sudden stops, suggesting other motives or policies at work.
Subjects and Keywords (as listed)
- Subjects: Balance of payments, Central banks, Consumption, Emerging and frontier financial markets, Exchange rate arrangements, External debt, Financial markets, Reserve positions, Reserves accumulation, Sudden stops
- Keywords: Asia and Pacific, Balance of Payments Crises, Capital Flows, Emerging and frontier financial markets, exchange rate, Foreign Exchange Reserves, Global, level of reserve, long-term debt, open economy, private sector, probability of a sudden stop, regime dummy, reserve adequacy literature, Reserve positions, Reserves accumulation, rollover crisis, short-term debt, Sudden Stops, WP
Source: IMF Working Paper "The Optimal Level of International Reserves for Emerging Market Countries: Formulas and Applications", Romain Ranciere and Olivier D Jeanne, October 1, 2006.
Content in this bundle
- _wp06229 — Reserves as a Share of GDP in Asia and Latin America, 1980-2003