IMF Survey : IMF Unveils New Way of Assessing Country Reserves

IMF News, April 24, 2015

Source details

Canonical URL: IMF Survey : IMF Unveils New Way of Assessing Country Reserves

The IMF has developed a new framework for determining the appropriate level of international reserves held by its member countries.
Aim: help strike a balance between the benefits and costs of holding reserves.
Intended use: to inform discussions of reserve adequacy in the context of the IMF’s regular “health checks” of members’ economies (Article IV consultations).

Reserves defined as the assets denominated in foreign currency, plus gold, held by a central bank.
Roles of reserves include:
- Build confidence in the national currency.
- Counter disorderly market conditions.
- Support the conduct of monetary policy.
- Build assets for intergenerational purposes.
- Influence the exchange rate.
Reserves held for precautionary purposes:
- Provide space for authorities to respond to potential shocks.
- Prevent chaotic market conditions and avert economic dislocation.
Reserves held for nonprecautionary purposes:
- Example: oil-exporting countries setting aside a portion of revenue to preserve wealth for future generations.

Multiple roles of reserves and complexity of quantifying external risks across countries make assessment difficult.
The global financial crisis highlighted importance of adequate reserves but little consensus existed on determining desired reserve levels.

Framework classifies countries based on:
- Strength of market access.
- Depth and liquidity of their markets.
- Flexibility of their economies.
Reserve needs by country group:
- More mature (advanced) countries: focus on limiting market dysfunction, including shortages of foreign currency liquidity in financial institutions.
- Emerging markets and low-income economies gaining market access (frontier economies): focus on mitigating risk of crises from potential current and capital account shortfalls.
- Countries with limited market access: often need reserves to smooth domestic absorption of current account shocks.
Additional guidance provided for specific country types within these categories, including:
- Countries with capital controls.
- Commodity-intensive countries.
- Dollarized economies.
Builds on work published in 2011 and 2013 and devotes more attention to advanced economies than earlier methods.

Holding too little reserves can be problematic; holding too much can also be costly.
Opportunity cost: reserves may earn a lower rate of return than alternative uses.
Specific concern for low-income countries: public capital not held in reserves could instead be spent on infrastructure with potentially greater long-term dividends.
The framework seeks a desirable range of reserve holdings where additional reserves’ benefits justify their costs.
Recommended discussion topics within Article IV consultations:
- Authorities’ stated objectives for holding reserves.
- Assessment of reserve needs for precautionary purposes.
- Discussion of the cost of reserves.
Consideration of external buffers beyond reserves:
- Central bank swap lines.
- Credit lines from international financial institutions.
Assessment should also take into account risks over the medium term.

A country’s reserve accumulation can have important outward spillovers on other countries.
Analysis of reserve accumulation spillovers is discussed in the IMF’s Spillovers Report and the External Sector Report.

IMF Survey, April 24, 2015