International Reserves and Rollover Risk

IMF Working Papers, January 31, 2013

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International Reserves and Rollover Risk

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Bibliographic details

• Authors: Javier Bianchi, Juan Carlos Hatchondo, Leonardo Martinez
• Published: January 31, 2013
• Series: IMF Working Papers
• DOI: https://doi.org/10.5089/9781475571295.001

Summary and motivation

• Two empirical facts motivate the paper:
  • Governments hold large amounts of international reserves, for which they obtain a return lower than their borrowing cost.
  • Purchases of domestic assets by nonresidents and purchases of foreign assets by residents are both procyclical and collapse during crises.
• The paper proposes a dynamic model of endogenous default that can account for these facts.
• The government faces a trade-off between:
  • The benefits of keeping reserves as a buffer against rollover risk.
  • The cost of having larger gross debt positions.

Model features and mechanisms

• Key model ingredients emphasized for quantitative success:
  • Long-duration bonds.
  • The countercyclical default premium.
  • Sudden stops.
• The model generates endogenous default decisions that interact with reserve holdings and rollover risk.
• Rollover risk is central to explaining why reserves are accumulated despite their lower return relative to borrowing cost.

Main findings (paper-level)

• Reserve accumulation can be rationalized as insurance against rollover risk despite the lower return on reserves relative to sovereign borrowing cost.
• Procyclicality of gross capital flows and their collapse in crises are linked to strategic interactions between domestic and foreign investors and sovereign rollover/default dynamics.

Policy-relevant implications

• Reserve holdings should be evaluated not only by their direct return but also by their role in reducing rollover risk and mitigating sudden stops.
• Debt structure (duration) matters: longer-duration bonds can alter default premia and the need for reserves.
• Managing sovereign borrowing costs and maturity structure can complement reserve accumulation as a tool to reduce vulnerability to sudden stops.

Subjects and keywords (as listed)

• Subject: Asset and liability management, Balance of payments, Bonds, Central banks, Debt refinancing, Financial institutions, National accounts, Personal income, Reserves accumulation, Sudden stops
• Keywords: Bonds, borrowing cost, debt duration, debt issuance, debt level, Debt refinancing, debt statistic, Global, gross capital flows, income loss, international reserves, long-duration bond, Personal income, reserve holding, Reserves accumulation, rollover risk, short-term debt, sovereign default, sudden stops, WP

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