Appendix 7. Frequently Asked Questions on the Characteristics of Reserve Assets
- International Monetary Fund. Statistics Dept.
- Published Date:
- October 2013
A7.1 This appendix provides frequently asked questions (FAQs) to assist countries in identifying reserve assets under international standards, consistent with the recommendations of the sixth edition of the BPM6.
A7.2BPM6, paragraph 6.64, defines reserve assets as follows: “Reserve assets are those external assets that are readily available to and controlled by monetary authorities for meeting balance of payments financing needs, for intervention in exchange markets to affect the currency exchange rate, and for other related purposes (such as maintaining confidence in the currency and the economy, and serving as a basis for foreign borrowing).”1
A7.3 To qualify for classification as a reserve asset, the asset must be:
- a claim on a nonresident or in gold bullion of significant purity (BPM6, paragraph 6.65 and 6.78);
- owned or under direct and effective control of the monetary authorities (BPM6, paragraph 6.67);
- readily available in the most unconditional form (i.e., be liquid) (BPM6, paragraph 6.69)
- denominated and settled in convertible foreign currencies that are freely usable for settlements of international transactions (BPM6, paragraph 6.72);
- of high quality (in general) (BPM6, paragraph 6.70).
A7.4 Some elements of the definition of reserve assets can be applied objectively while others require informed judgment. For example, determining whether a claim is on a nonresident usually can be determined objectively. However, determining whether a claim is sufficiently liquid to qualify for reserve asset classification is partly judgmental.
A7.5 More guidance on the above characteristics, particularly on those that require judgment, is presented in the following FAQs.
Question 1: A reserve asset must be a claim on a nonresident or in gold bullion of sufficient purity. Are there any circumstances where foreign exchange-denominated claims of resident banks can be regarded as reserve assets?
A7.6 In accordance with the residence concept, reserve assets, other than gold bullion, must be claims on nonresidents (BPM6, paragraph 6.65).2 The authorities’ foreign currency claims on residents, including claims on resident banks, are not reserve assets.
A7.7 However, there may be cases where institutional units other than the monetary authorities (such as domestic banks) hold legal title to external foreign currency assets which are unencumbered, and such external assets can be considered reserve assets under the following conditions:
- the resident entity can transact only in those claims with nonresidents on the terms specified by the monetary authorities or only with their express approval; and
- the authorities have access on demand to these claims on nonresidents to meet balance of payments financing needs and other related purposes; and
- a prior law or an otherwise legally binding contractual arrangement confirms this agency role of the resident entity that is actual and definite in intent.
A7.8 In the above circumstances, it is not the authorities’ claim on the resident bank that is included in reserve assets, but instead it is the resident bank’s claim on a nonresident that is regarded as a reserve asset, because the latter claim is under the direct and effective control of the monetary authorities.
A7.9 In the Reserves Data Template, liquid foreign currency claims on residents that do not meet the criteria for reserve asset treatment should be included in Section I.B. of the Template, “other foreign currency assets (specify).”
Question 2: A reserve asset must be readily available for meeting balance of payments financing needs. Some types of arrangements with the IMF, such as the Flexible Credit Line (FCL) and the Precautionary and Liquidity Line (PLL), are readily available for meeting balance of payments financial needs. Are these reserve assets?
A7.10 Paragraph 6.65 of BPM6 states that reserve assets must be foreign currency assets that actually exist. Contingent or potential assets, such as undrawn lines of credit, are not assets and so therefore they also are not reserve assets. Undrawn, unconditional credit lines should be recorded in Section III of the Reserves Data Template. As described in the Guidelines (paragraph 216), in general, IMF arrangements are conditional lines of credit and thus should not be included in Section III of the Template.
A7.11 The FCL has conditions for access that include qualification criteria that must be met before the credit line is approved. In FCL arrangements with a one year duration, once the qualification criteria are met, the member can draw down funds throughout the entire one-year period of the arrangement. In two-year FCL arrangements, however, continued access to resources during the second year is also subject to completion of a review. In light of the above, the undrawn amounts under one-year FCL arrangements should be included in Section III from approval to the maturity of the FCL arrangement. Undrawn amounts under two-year FCL arrangements should be included in Section III from approval up until the scheduled review date under the FCL.
A7.12 PLL arrangements have different phasing and conditionality depending on the duration of the arrangement and the member’s circumstances. However, all PLL arrangements of a six month duration are similar to the one-year FCL arrangements in that access to resources under such arrangements is subject to qualification criteria to be met before approval and once this is met, the member can draw down funds throughout the entire six-month period of the arrangement, with no other conditions applying for drawings after the approval of the arrangement. Therefore, undrawn amounts under six-month PLL arrangements should be included in Section III from approval to the maturity of the six-month PLL arrangement.
Question 3: The definition of reserve position in the IMF states that it includes “…any indebtedness of the IMF (under a loan agreement) in the General Resources Account that is readily available to the member country…” (BPM6, paragraph 6.85). What is the treatment when institutional units or parts of members (such as a central bank or a ministry of finance) holds the claim on the IMF, rather than the (entire) member country itself?
A7.13 In some circumstances, an institutional unit or part of a member may provide financing to the IMF’s GRA under bilateral loan agreements, notes, or participation in standing borrowing arrangements such as the GAB or NAB. In these circumstances, the claim on the IMF held by the institutional unit on part of the member that results from drawing under these instruments should be included in the reserve position in the IMF provided that it is readily available to the member country at the time that the member represents that it has a balance of payments need.
Question 4: Reserve assets must be readily available for meeting a balance of payments financing need. Can you clarify what this means? For example, if an external claim can be sold for a reserve asset, with settlement of the transaction occurring within a few weeks, is the claim sufficiently liquid to qualify as a reserve asset?
A7.14 The IMF does not specify a firm time period for meeting the reserve asset “readily available” requirement. The IMF has received questions from members over many years regarding specific external claims (i.e., claims on nonresidents) that are held by its members. In reply to these questions, the IMF has said that, if an external claim can be converted into a reserve asset currency to meet a balance of payments need only within several weeks, that is not sufficiently rapid for the external claim to qualify as a reserve asset, in consideration of the speed at which balance of payments crises could develop. Further, provided reserves are available at very short notice for times when they are needed most, the IMF has also said, the external claim that can be converted into a reserve asset currency to meet a balance of payments need within a few days could meet the readily available requirement.3
Question 5: We have seen the terms usable currencies, freely usable currencies, and convertible currencies used from time to time. Can you clarify the definitions of these terms? In particular, does the IMF maintain lists of each?
A7.15 Currently the IMF does not maintain a list of convertible currencies. In 1978, the Second Amendment of the IMF’s Articles of Agreement entered into effect and the concept of “convertible currencies” was replaced by the term “freely usable currency,” which is defined in the Articles of Agreement.
A7.16 In regard to the definition of a freely usable currency, Article XXX of the Articles of Agreement of the IMF provides, in paragraph (f), that “A freely usable currency means a member’s currency that the Fund determines (i) is, in fact, widely used to make payments for international transactions, and (ii) is widely traded in the principal exchange markets.” At present, the currencies determined to be “freely usable” are those specified as such under Executive Board Decision No. 11857-(98/130) of December 17, 1998, which says that “Pursuant to Article XXX (f), and after consultation with the members concerned, the Fund determines that, effective January 1, 1999 and until further notice, the euro, Japanese yen, pound sterling, and US dollar are freely usable currencies.”
A7.17 In addition, for Fund GRA operations, a usable currency is a member’s currency used in the IMF’s Financial Transactions Plan (FTP). The inclusion of a currency in the FTP is based on judgments about the external positions of members and the currencies so included extend beyond those determined to meet the “freely usable currency” criterion under Article XXX (f) of the IMF’s Articles of Agreement. The most current list is available at: http://www.imf.org/cgi-shl/create_x.pl?ftp. Please note that this is a list of “usable” foreign currencies, whereas reserve assets must be denominated and settled in a “freely usable” foreign currency.
A7.18 For the recording of reserve assets, BPM6 states that “reserve assets must be denominated and settled in convertible foreign currencies, that is, currencies that are freely usable for settlement of international transactions” (BPM6, paragraph 6.72). Such currencies potentially extend beyond those currencies determined to meet the “freely usable currency” criterion under Article XXX (f) of the IMF’s Articles of Agreement. Countries are required to disclose at least once each year the composition of reserves by groups of currencies (item IV.(2)(a) of the Reserves Data Template). The overwhelming majority (well over 95 percent at the present time) of reserve assets reported in the Reserves Data Template are denominated in the freely usable currencies determined by the Fund under Article XXX (f) (i.e., the currencies currently included in the SDR basket).
Question 6: Reserve assets should be of high quality. Can you explain what “high quality” means?
A7.19BPM6, paragraph 6.70, clarifies that “To be readily available to the authorities to meet balance of payments financing needs and other related purposes under adverse circumstances, reserve assets generally should be of high quality.” The BPM6 discussion implies that securities included in reserve assets should generally be of high investment grade, because such securities can be converted to a freely usable foreign currency under adverse circumstances without substantial delay or loss in market value. As noted in paragraph 89 of these Guidelines, countries should indicate in notes accompanying the release of their data if reserve assets include securities below investment grade.
Question 7: What is the difference between nominal and notional value?
A7.20 According to BPM6, nominal value refers to the outstanding amount the debtor owes to the creditor, which is composed of the outstanding principal amount including any accrued interest. So the nominal value reflects the sum of funds originally advanced, plus any subsequent advances, plus any interest that has accrued, less any repayments (which includes any payments covering interest accrual). Nominal value in domestic currency of a debt instrument denominated in foreign currency also includes holding gains or losses arising from exchange rate changes. Nominal value for a derivative instrument is the amount underlying the contract that is to be exchanged—such as in a foreign exchange swap. On the other hand, the notional value of a financial derivative instrument is the amount that is used to calculate payments made on that instrument. This term is used commonly in the options, futures, and currency markets, where settlement payments are based on principal that may not be exchanged.
Question 8: What is the difference in treatment between a repurchase agreement (repo) and a swap?
A7.21 Under the international statistical standards, repurchase agreements (repos) and swaps should be recorded in the following ways.
A7.22. Repos: A repo should be treated as a collateralized loan. The cash that a borrower receives under the repo should be included in its international investment position (IIP), and should be included in reserve assets if it involves a freely usable currency. In addition, the borrower should record a loan payable (predetermined drain), representing its requirement to return the cash (and interest) at a stated future time.
A7.23 To consider the recording of the securities from the perspective of the cash borrower under the repo, the securities should be assessed against the criteria for reserve asset treatment and, if they are not liquid or readily available for meeting balance of payments financing needs (or are available for meeting balance of payments financing needs only if a substitute reserve asset has to be provided as collateral), they should be excluded from the cash borrower’s reserve assets. Nonetheless on practical grounds, the cash borrower may continue to record the securities in reserve assets, and BPM6 allows for this possibility (paragraph 6.88)
A7.24 Analogously, the cash lender has exchanged cash for a loan receivable or deposit. The loan receivable or deposit should be assessed against the criteria for reserve asset treatment and, if it is not liquid or not readily available for meeting balance of payments financing needs, it should be excluded from the lender’s reserve assets. Thus, a predetermined inflow should be recorded that indicates a loan receivable. The securities that are obtained by the lender should always be excluded from the lender’s reserve assets. This is because the securities are collateral for the loan. The economic ownership of the securities continues to be with their original owner, not the cash lender, and therefore the securities should not be recorded in the IIP of the cash lender. As the securities are not recorded in the IIP of the cash lender, as noted above, they also should not be recorded in reserve assets of the cash lender, because reserve assets are a subset of the IIP.
A7.25 Swaps: Swaps take a variety of different forms. In the case where one or both counterparties receive cash, the recipient of the cash should include the cash in its IIP, and, similar to the treatment of cash under repos, the cash should be included in reserve assets if it involves a freely usable currency (but not the domestic currency of the holder).
A7.26 In the case where the swap involves the provision of securities for cash, sometimes the initiator of the swap pays interest to its counterparty, in which case the swap should be recorded as a collateralized loan or repo.
A7.27 Reciprocal currency arrangements are short-term arrangements (reciprocal credit lines) that allow the counterparties temporary access to the foreign currencies they may need. When credit lines are drawn, a swap transaction takes place, involving an immediate delivery transaction (in which case a counterparty draws cash and, in exchange, provides securities or cash as collateral), and a simultaneous forward (future delivery) commitment, in which the two counterparties agree to reverse the transaction at a specified date in the future. As noted above, in the case where one or both counterparties under any of the various forms of swaps receive cash, the recipient of the cash should include the cash in its IIP, and the cash should be included in reserve assets of its holder(s) if it involves a freely usable currency (but not the domestic currency of the holder(s)). In the case where securities are provided as collateral for the swap, it is recommended that the swap be recorded as a collateralized loan. See paragraphs 212–213 for additional detail on the recording of reciprocal currency arrangements.
A7.28 In the case of a gold swap, gold is exchanged for cash and a firm commitment is made to repurchase the gold at a future date. Although accounting practices for gold swaps vary among countries, for purposes of the Reserves Data Template, it is recommended that a gold swap be treated the same way as a collateralized loan or repo. Thus, the cash lender within the gold transaction should not include the gold in its IIP and in its reserve assets.
A7.29 Gold deposits of monetary authorities representing claims on nonresidents are to be included in gold and not in total deposits (assuming the gold is available upon demand to the monetary authority and is of high quality). With gold deposits and gold swaps, the original owner of the gold retains the risks and rewards of changes in the price of the asset. Accordingly, there is considered to be no change of economic ownership of the gold, so no transaction in gold is recorded.
There are no substantive differences in the definition of reserve assets between the fifth and sixth editions of the Balance of Payments Manual.
Gold bullion is an asset but it is not a claim, because no other entity has a corresponding liability.
In addition, paragraph 6.69 of BPM6 states that the ability to raise funds by using an asset as collateral is not sufficient to qualify an asset as a reserve asset.