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The Foreign Exchange Reserves Buildup: Business as Usual?

The Foreign Exchange Reserves Buildup: Business as Usual?. Charles Wyplosz Graduate Institute of International Economics and CEPR Workshop on Debt, Finance and Emerging Issues in Financial Integration, 6-7 March 2007. The issue. Excessive?. Need to answer two questions. Measurement

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The Foreign Exchange Reserves Buildup: Business as Usual?

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  1. The Foreign Exchange Reserves Buildup: Business as Usual? Charles Wyplosz Graduate Institute of International Economics and CEPR Workshop on Debt, Finance and Emerging Issues in Financial Integration, 6-7 March 2007

  2. The issue Excessive?

  3. Need to answer two questions • Measurement • Criteria • Both related to motive

  4. Measurement • Nominal reserve stocks • Usual scale variables • GDP • Trade (imports, exports)

  5. Measurement • Nominal reserve stocks • Usual scale variables • GDP • Trade (imports, exports) • Popular rules • 3 months of imports • Stock of short-term external liabilities • Greenspan-Guidotti-Fischer rule

  6. A different picture Excessive?

  7. The impact of financial globalization

  8. More details: Who does it?

  9. More details: Who does it and why?

  10. And some outliers

  11. Excessive? • The motives approach • The cost-benefit approach

  12. Motives • Self-insurance • Shifting risks • from trade balance to capital account • from 3 months of imports to Greenspan-Guidotti-Fischer rule • Mercantilism • Variant 1: Export-led growth strategy • Variant 2: Keep savings home • Variant 3: Hold reserves for the sake of it • Variant 4: Directed credit

  13. Testing motives • Aizenman and Lee (2006) • Strong effect of variables related to self-insurance • Capital account liberalization • Crisis dummies • Some effect of variables related to mercantlism, but much weaker • Undervaluation • Export growth

  14. Testing motives • Aizenman and Lee (2006) • Jeanne and Rancière (2006) • Model of self-insurance • Reserve build-up well explained • But some outliers in South-East Asia

  15. Testing motives • Aizenman and Lee (2006) • Jeanne and Rancière (2006) • Official and unofficial statements • Conclusion: self-insurance and fear of IMF

  16. Costs and benefits • Costs • Direct costs • Rodrik (2006): 1% of GDP for reserves =30% of GDP • Opportunity costs • Better returns at home (private and public) • The case of China

  17. Costs and benefits • Costs • Benefits • Export-led growth • Self-insurance

  18. Export-led growth • Apparently successful, so a benefit? • Only if systematic undervaluation works • No evidence that it does • No theory • Nominal vs. real exchange rate • Strong foreign demand inflation • Unless domestic demand is weak • High saving is the key success factor • But then what to do with the savings? • Invest at home or abroad

  19. Self-insurance • Currency crises can be very expensive • A good reason to buy insurance • Do high reserve stocks provide insurance? • Not really an insurance • Reduce the odds of crisis • Unlikely to eliminate the threat • False sense of immunity • Could discourage reforms • Could encourage imprudent policies

  20. Wrap-up • Limited evidence of excessive accumulation • Some prominent exceptions • Little evidence of mercantilist motive • Mostly self insurance • Recent build-up is business as usual • What has been unusual is financial gloablization

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