Chapter

I. What Is Reserve Management and Why Is It Important?

Author(s):
International Monetary Fund
Published Date:
August 2004
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Reserve management is a process that ensures that adequate official public sector foreign assets are readily available to and controlled by the authorities for meeting a defined range of objectives for a country or union.1 In this context, a reserve management entity is normally made responsible for the management of reserves and associated risks.2 Typically, official foreign exchange reserves are held in support of a range of objectives,3 including to

  • support and maintain confidence in the policies for monetary and exchange rate management, including the capacity to intervene in support of the national or union currency;

  • limit external vulnerability by maintaining foreign currency liquidity to absorb shocks during times of crisis or when access to borrowing is curtailed, and in doing so

  • provide a level of confidence to markets that a country can meet its external obligations;

  • demonstrate the backing of domestic currency by external assets;

  • assist the government in meeting its foreign exchange needs and external debt obligations; and

  • maintain a reserve for national disasters or emergencies.

Sound reserve management practices are important because they can increase a country’s or region’s overall resilience to shocks. Through their interaction with financial markets, reserve managers gain access to valuable information that keeps policymakers informed of market developments and views on potential threats. The importance of sound practices has also been highlighted by experiences where weak or risky reserve management practices have restricted the ability of the authorities to respond effectively to financial crises, which may have accentuated the severity of these crises. Moreover, weak or risky reserve management practices can also have significant financial and reputational costs. Several countries, for example, have incurred large losses that have had direct, or indirect, fiscal consequences.4 Accordingly, appropriate portfolio management policies concerning the currency composition, choice of investment instruments, and acceptable duration of the reserves portfolio, and which reflect a country’s specific policy settings and circumstances serve to ensure that assets are safeguarded, readily available, and support market confidence.

Sound reserve management policies and practices can support, but not substitute for, sound macroeconomic management. Moreover, inappropriate economic policies (fiscal, monetary and exchange rate, and financial) can pose serious risks to the ability to manage reserves.

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