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Optimal level of reserves
XXIV Meeting of the Latin American Network of Central Banks
and Finance Ministries
Adrián Armas
Washington, October 20 2006
Reasons for accumulating international
reserves
Lack of an international lender of last resort.
Negative experiences with privately funded
liquidity insurance
Pooling of reserves
2
Some facts about the pooling of reserves
There are some issues to evaluate:
Possible simultaneity in the demand for resources
Resources used to constitute the pool may not be
considered as high quality assets.
Differences in economic size among countries can
generate problems of resource allocation
3
If potential members of a reserve pool face
symmetric shocks, there could be a
simultaneous demand for resources. Shocks in
the real sector seems not to be highly correlated
GDP growth: Correlation coeficient, 1990: 2006
ARG
BOL
BRA
CHI
COL
ECU
PAR
BOL
BRA
CHI
COL
ECU
PAR
PER
PER
URU
URU
VEN
VEN
higher than 0,50
10 cases
Between 0,40 - 0,49 14 cases
Lower than 0,39
21 cases
4
However, correlation among spreads can
signal some potential simultaneity in the
demand for resources
Correlation coeficient EMBI: 1998 - 2006
EMBI+
LATIN
ARG
BRA
COL
LATIN
ARG
BRA
COL
ECU
ECU
MEX
MEX
PER
PER
VEN
VEN
CHI
Higher than 0,50
32 cases
Betw een 0,40 and 0,49
3 cases
Lower than 0,39
10 cases
5
Optimal level of international reserves
An adequate level of international reserves can
be used as a self insurance during financial
turmoil.
According to the literature on financially dollarized
economies, a higher degree of dollarization
increases the vulnerability of the financial system
to liquidity and solvency risks.
Gulde et al (2004) point out that it is harder to deal
with a bank run in a highly dollarized economy,
because it is subject to more risk.
6
Fiscal deficit
1997 – 2006
(as percentage of GDP)
4,0
3,2
3,3
3,0
2,5
2,3
1,7
2,0
1,0
1,0
1,0
0,3
0,0
-0,1
-1,0
-1,1
-2,0
1997
1998
1999 2000
* June (last 4 quarters)
2001 2002
2003
2004 2005 2006*
7
Public debt
1999 – 2006
(as percentage of GDP)
50,0
47,1
45,4
45,9
46,5
47,0
44,3
40,0
37,8
35,3
30,0
20,0
10,0
1999
* June
2000
2001
2002
2003
2004
2005 2006 *
8
Even though dollarization indicators in Peru show a
decreasing trend over the last few years, financial
dollarization is still high
Financial dollarization indicators
85
80
75
70
65
60
55
50
45
40
1997
1999
2001
Monetary aggregate
* August
2003
2005
2006*
Credit to the private sector
9
Monetary policy framework in Peru
Inflation targeting
+
Dedollarization policies
Financial dollarization
risks control
Internalization of risks and policy
responses to negative shocks
10
Financial dollarization risks
Financial dollarization risks
Policy responses
Liquidity risk (maturity mismatch)
Inflation targeting framework
Exchange rate risk
Capital market development in domestic currency
High reserve requirement on foreign currency
liabilities
High level of international reserves
Central bank moderates excessive exchange rate
volatility
11
Net international reserves
1997- 2006
(in billions of US$)
15,2
14,1
12,6
10,2
9,2
1997
1998
* September
9,6
8,4
8,2
8,6
1999
2000
2001
2002
10,2
2003
2004
2005
2006*
12
Peru’s reserve adequacy ratio is higher
than other countries of the region
Moody's - S&P
Ratings
Peru
Argentina
Brasil
Chile
Colombia
Ecuador
El Salvador
Mexico
Paraguay
Venezuela
(Ba3 - BB)
(B3 - B+)
(Ba3 - BB)
(Baa1 - A)
(Ba2 - BB+)
(Caa1 - CCC+)
(Baa3 - BB+)
(Baa1 - BBB)
(Caa1 - B-)
(B2 - BB-)
External
vulnerability
indicator 1/
2/
2,56
0,56
0,68
1,24
0,99
0,22
0,78
1,82
1,82
1,65
1/ NIR / (Short-term external debt + Amortization paid on external debt)
2/ Indicators calculated for 2005.
Source: Moody’s Statistical Handbook. Country Credit. May 2006
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International liquidity indicators
should also consider financial
dollarization risks
2005
NIR / Imports of goods and
services
NIR / Short term external
liabilities
NIR / (Short term external
liabilities+ Banking system
foreign currency broad money)
2006 1/
11 months
11 months
2,6 times
2,7 times
0,9 times
1,0 times
1/ NIRposition
as of September
30, imports
as of August
and short
term
external
R and foreign exchange
as of September
30, imports
as of31
August
31 and
short
term external liabilities as o
liabilities as of June 30.
14
Foreign exchange intervention
January 2002 – September 2006
3,70
Brasil,
2002
S/. por US$
3,60
Peru, presidential
elections
3,50
3,40
Precautionary
accumulation of reserves
3,30
3,20
Ene-02
Jul-02
Ene-03
Jul-03
Ene-04
Jul-04
Ene-05
Jul-05
Ene-06
Jul-06
15
Risks in reserve accumulation
CDBCRP balances relative to credit to the private
sector
Percentage
Billions of US$
18
16 000
16
14
14 000
12
10
12 000
8
6
10 000
4
2
0
Jan-03
8 000
Jul-03
Jan-04
Jul-04
Jan-05
CDBCRP / credit
Jul-05
Jan-06
NIR
Jul-06
16
Risks in reserve accumulation
CDBCRP balances and average interest rate of
CDBCRP: 2003- 2006
Millions of S/.
Percentage
12 000
5,5
10 000
5,0
4,5
8 000
4,0
6 000
3,5
4 000
3,0
2 000
0
Jan-03
2,5
2,0
Jul-03
Jan-04
CDBCRP balances
Jul-04
Jan-05
Interest rate
Jul-05
Jan-06
Jul-06
Reference rate
17
Risks in reserve accumulation
Average interest rate of CDBCRP and 3 month LIBOR
Percentage
6,0
5,0
4,0
3,0
2,0
1,0
0,0
Jan-03
Jul-03
Jan-04
Jul-04
Jan-05
Interest rate of CDBCRP
Jul-05
Jan-06
3 month LIBOR
Jul-06
18
Conclusions
•
•
During 2003-2005, the BCRP has accumulated NIR with
the objective of being in a better position to face negative
shocks that could be amplified due to financial
dollarization.
Foreign exchange intervention and NIR accumulation
have been
consistent with the Inflation Targeting
framework in a dollarized economy. In particular:
a.
Inflation target has been met since IT adoption.
b.
Sterilized intervention have kept interest rates
in line with the interbank reference rate.
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