The special drawing right is an international reserve asset created by the IMF following the First Amendment of the Articles of Agreement in 1969. It was created as a supplement to existing reserve assets and is allocated by the IMF to members participating in the SDR Department (currently all members). Its value as a reserve asset derives, essentially, from the commitments of participants to hold and accept SDRs and to honor various obligations connected with its proper functioning as a reserve asset. Thus, the functioning of the SDR Department, like that of the General Department, is based on the principle of mutuality and intergovernmental cooperation.

The special drawing right is an international reserve asset created by the IMF following the First Amendment of the Articles of Agreement in 1969. It was created as a supplement to existing reserve assets and is allocated by the IMF to members participating in the SDR Department (currently all members). Its value as a reserve asset derives, essentially, from the commitments of participants to hold and accept SDRs and to honor various obligations connected with its proper functioning as a reserve asset. Thus, the functioning of the SDR Department, like that of the General Department, is based on the principle of mutuality and intergovernmental cooperation.

Participants’ holdings of SDRs are part of their international reserves, together with their holdings of gold, foreign exchange, and reserve positions in the IMF. The SDR earns for its holders a market-related rate of interest, which is set every week. It is a purely official asset that can only be held and used by member country participants in the SDR Department, by the IMF, and by official entities prescribed as “other holders” of SDRs by the IMF.59 (Commercial banks have created and issued SDR-denominated financial instruments, which are distinct from the “official” SDR.)

At the time the SDR system was agreed upon in 1967, it was thought that for the first time the total stock of international reserves and its rate of growth would reflect deliberate international decisions rather than being determined solely by the accumulation of balances in reserve currencies. Thus, it was envisaged that the IMF would become a major source of supply of both conditional liquidity through its traditional means of providing financial assistance, and of unconditional liquidity through the functioning of the SDR system. These views were subsequently reflected in the Second Amendment to the Articles of Agreement in 1978, which established that the obligation of members to collaborate regarding policies on reserve assets should be consistent with the objectives of promoting better international surveillance of international liquidity and making the SDR the principal reserve asset.

Over time, the characteristics of the SDR as a reserve asset have been improved through various means, including a reduction in the number of currencies that enter into the basket that determines its value (from an initial 16 to 5 currencies), the linking of the rate of return on the SDR to market yields, and the establishment by the IMF of several arrangements with members to facilitate operations in SDRs and the buying and selling of SDRs. For the last decade, all exchanges of SDRs for currencies between members have been voluntary, and it has not been necessary to designate a member to accept SDRs in exchange for usable currencies. However, since the last allocation of SDRs in 1981, there has not been further agreement on the required global need for additional reserves, and the total amount allocated has remained unchanged at SDR 21.4 billion. In addition, SDR-denominated assets have not grown in private financial markets.

General Allocations and Cancellations of SDRs

The IMF has the authority (Article XV, Section 1, and Article XVIII) to create unconditional liquidity through general allocations of SDRs to participants in the SDR Department in proportion to their quotas in the IMF.60 The IMF cannot allocate SDRs to itself or to other holders it prescribes. The Articles also provide for the cancellation of SDRs, although to date there have been no cancellations. In its decisions on general allocations of SDRs, the IMF, as prescribed under its Articles, has sought to meet the long-term global need to supplement existing reserve assets in such a manner as will promote the attainment of the IMF’s purposes and will avoid economic stagnation and deflation, as well as excess demand and inflation.

Decisions on general allocations of SDRs are made for successive basic periods of up to five years.

  • SDRs are allocated to each participant as a uniform percentage of its quota immediately preceding the allocation.

  • The first basic period was for three years (1970–72), when a total of SDR 9.3 billion was allocated. Annual allocations amounted to between 11 percent and 17 percent of total quotas.

  • There were no general allocations in the second basic period, 1973–77.

  • In the third basic period. 1978–81, a total of SDR 12.1 billion was allocated. Annual allocations amounted to between 7 percent and 10 percent of total quotas, which had increased since the earlier allocation.

  • There have been no general allocations of SDRs since the third basic period.

  • As of April 30, 1998, SDR 20.36 billion was held by participants. SDR 0.76 billion by the IMF in the General Resources Account, and SDR 0.39 billion by prescribed holders (see “Participants and Prescribed Holders” below).

The decision for a general allocation of SDRs follows a set procedure. First, if the Managing Director has ascertained that a proposal for SDR allocation has widespread support among SDR participants, he is required to make such a proposal at least six months before the commencement of a basic period, or within six months of a request for a proposal from the Executive Board or Board of Governors, or at such other times as specified in Article XVIII. Second, the Executive Board must concur with the proposal. Third, the Board of Governors has the power, by a majority of not less than 85 percent of its total voting power, to approve or modify the proposal.61

If the Managing Director, after consultations with participants, concludes that there is no broad support among participants for a general allocation of SDRs for the next basic period, or that there is no proposal that he considers to be consistent with the objectives as set forth in the Articles, he is required to submit a report indicating this finding to the Executive Board and the Board of Governors.

Special Allocation of SDRs

Equity Issue

After extensive consideration for several years of the issue of a general allocation of SDRs, in mid-1996 the Managing Director concluded that there was still no consensus on the finding of a long-term global need, which is required to support a decision in favor of a general allocation. However, the Executive Board continued to seek a basis on which to reach a consensus on a way for all members to receive an equitable share of cumulative SDR allocations, the “equity issue,” which had been raised as early as 1993. Large differences had arisen among members’ ratios of cumulative SDR allocations to quotas, for several reasons:

  • Since the last allocation of SDRs, agreed upon in 1978 and implemented during 1979–81, 39 countries have joined the IMF—notably many of the economies in transition—none of which has received an allocation of SDRs.

  • Some members that joined before 1978 have not participated in every SDR allocation.

  • Some members that participated in all allocations have very low ratios of cumulative allocations to quota at present because of past increases in their share in total quotas.

Seminar on the SDR

In March 1996, almost thirty years after the initial agreement on the SDR system, the IMF brought together a number of outside experts from the academic world and from public and private financial institutions, along with IMF staff, for a seminar to consider the future of the SDR. Main themes emerging from the discussion were the following:

  • The globalization of international finances and the development of private capital markets made it appear unlikely that the SDR would become established as the principal reserve asset of the international monetary system in the near future, or that it would evolve from an unconditional line of credit into a full-fledged world currency. Several proposals were made, however, that could facilitate greater demand for SDRs within the public and private sectors.

  • There was considerable sentiment in favor of maintaining at least the present role of the SDR, and the SDR was seen as a possibly very valuable tool for dealing with serious difficulties that may be encountered in the future in the international monetary system (the “safety net” role).

  • Views over general allocations of SDRs reflected the continuing lack of consensus on how to interpret the requirement of “long-term global need” to supplement existing reserves.

  • There was general agreement that a solution should be found to the “equity” issue.

Fourth Amendment to the IMF’s Articles

To ensure that all members receive an equitable share of cumulative SDR allocations, the Board of Governors adopted a resolution on September 23, 1997, approving a proposal for a Fourth Amendment to the Articles. The amendment, which will become effective when approved by three-fifths of the members having 85 percent of the total voting power, will provide the authority (under Article XV) for a special one-time allocation of SDR 21.4 billion to raise all participants’ ratios of cumulative SDR allocations to quota under the Ninth General Review to a common benchmark of 29.3 percent, which will double the amount of SDRs already allocated.

The proposed amendment also provides for future participants62 to receive a special allocation following the later of (1) the date of their participation, or (2) the effective date of the Fourth Amendment, unless they notify the IMF of their desire not to receive the allocation. The proposed amendment would not affect the IMF’s existing power to allocate SDRs based on a finding of a long-term global need to supplement reserves as and when such a need arises.

Valuation of the SDR

The SDR is a reserve asset that consists of a credit entered in the books of the SDR Department in favor of the member on the occasion of an allocation. Its value is defined by decision, and the IMF has decided since 1981 to value the SDR in terms of a basket of five major currencies, which currently are also the five “freely usable” currencies of international financial transactions: the U.S. dollar, the deutsche mark, the Japanese yen, the French franc, and the pound sterling.

The value of the SDR in terms of the U.S. dollar is calculated daily by the IMF as the sum of the market values in terms of the U.S. dollar of the amounts of each of the five currencies in the valuation basket.63 These amounts, or currency units in the current basket, were derived from the agreed upon percentage weights of the currencies in the basket, using average exchange rates for the three months ended December 31, 1995. The agreed upon shares, or weights, of these currencies were 39 percent for the U.S. dollar, 21 percent for the deutsche mark, 18 percent for the Japanese yen. and 11 percent each for the French franc and the pound sterling. The weights broadly reflected the relative importance of these currencies in international trade and payments, as measured by the value of exports of goods and services of the member countries issuing these currencies and the amounts of these currencies held as reserves by members of the IMF over the five-year period 1990–94.

The currencies that determine the value of the SDR and the amount of each of these currencies are reviewed every five years; the most recent revision was on January 1, 1996. (An illustrative calculation of the value of the SDR in terms of the U.S. dollar is shown in Table 11.) Because the daily calculation is based on specified amounts of each currency in the basket, the weight of each currency in the value of the SDR changes daily as a result of fluctuations in exchange rates. The value of the SDR in terms of currencies other than the U.S. dollar is determined by applying the representative exchange rates for those currencies in terms of the U.S. dollar to the SDR value of the dollar. For example, on May 14, 1998, the deutsche mark was worth SDR 0.419087, given that on that day the representative rate for the deutsche mark was US$1 = DM 1.7774 and the U.S. dollar in terms of SDRs was SDR 0.744886. The IMF publishes daily the exchange rates for more than 40 currencies in terms of the SDR on the IMF website (http://www.imf.org).

Table 11.

SDR Valuation on June 30, 1998

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Note: In column 2, exchange rates are in terms of currency units per U.S. dollar except for the pound sterling, which is expressed in U.S. dollars per pound. All rates are those at noon in the London foreign exchange market. Column 3 shows the U.S. dollar equivalents of the currency amounts in column 1 at the exchange rates in column 2 (that is, column 1 divided by column 2, except for the pound sterling, for which the amounts in the two columns are multiplied).

With the advent of the European Economic and Monetary Union (EMU) and the introduction of a single currency in 11 European Union countries in 1999, two of the five currencies that are included in the SDR basket—the deutsche mark and the French franc—will cease to exist as independent currencies and will be replaced by the euro. This major development in the international monetary system will give rise to various issues in the valuation of the SDR, including how the weights of the currencies in the new basket should be determined, which are currently under review. However, initially it will be possible to substitute euros for deutsche mark and French francs without changes in the weights, unless the IMF has adopted a decision revising the method of valuation of the SDR.

SDR Interest Rate, Charges, and Assessment

The SDR as a reserve asset carries a market-related rate of return with the following characteristics:

  • All holders of SDRs earn interest on their daily average holdings, and all participants that have received allocations of SDRs incur charges on their cumulative allocations.

  • Interest is earned and charges are levied at the same rate.

  • The rate of interest on SDR holdings (since August 1, 1983) is calculated weekly and is equal to the combined market rate of interest, determined as the weighted-average interest rate or yield on specified short-term instruments in the money markets of the same five countries whose currencies are included in the SDR valuation basket.64

  • The combined market interest rate used to determine the SDR interest rate is calculated on Friday, enters into effect the following Monday, and applies until the end of the following Sunday.

  • Beginning November 1, 1983, SDR interest and charges have been paid at the beginning of each of the IMF’s financial quarters instead of annually, as had previously been the case.

The weekly SDR interest rate and the rate of remuneration are obtainable from the IMF each Friday after 6:00 p.m., Washington time (by calling 202-623-7171), from the IMF website (http://www.imf.org), or from Reuter’s financial services.

Just as a member with holdings of SDRs in excess of its allocations earns net interest on its excess holdings, a member with holdings below its allocations pays net charges at the same rate on its net use of SDRs. Consequently, payments of interest and charges are self-balancing; that is, the net charges payable by net users are exactly sufficient for the payment of net interest to those that hold SDRs above their allocations, and for the payment of interest to the IMF’s General Resources Account and to prescribed holders. A participant whose holdings match its net cumulative allocations of SDRs on average over the financial quarter receives and pays offsetting interest and charges: consequently, no net income or expenditure is generated. Prescribed holders (see below) and the IMF receive interest on their SDR holdings but are not subject to charges because they are not allocated SDRs.

The IMF levies an assessment on each participant—in proportion to its net cumulative allocations—at the end of each financial year (April 30) to cover the expenses of conducting the business of the SDR Department. The rate of assessment is generally very small; for the financial year ended April 30, 1998, it was 0.0206 percent of net cumulative allocations.

Participants and Prescribed Holders

SDRs are allocated only to members that elect to be participants in the SDR Department and to observe the obligations of participants. Since April 7, 1980, all members of the IMF have been participants in the SDR Department. SDRs can be held by, but not allocated to, the General Resources Account of the IMF and prescribed holders. The GRA receives SDRs in partial payment of quota subscriptions by members, in charges on the use of IMF resources, and in repurchases.65

The IMF has the authority to prescribe, as other holders of SDRs, non-members, member countries that are not SDR Department participants, institutions that perform the functions of a central bank for more than one member, and other official entities. As of end-June 1998, there were 15 organizations approved as prescribed holders.66 These entities can acquire and use SDRs in transactions by agreement and in operations with participants and other holders under the terms and conditions prescribed by the IMF. They cannot, however, receive allocations of SDRs or use SDRs in “transactions with designation” (see below). There is no general provision for prescribed holders to initiate transactions and operations in SDRs with the GRA; however, in the case of those prescribed holders, if any, that are lenders to the IMF’s GRA, it has been agreed that they may receive interest payments and repayments of principal from the IMF in SDRs.

Uses of SDRs

Participants with a balance of payments need may use SDRs to acquire foreign exchange in a transaction with designation (that is, one in which another participant, designated by the IMF, provides a freely usable currency in exchange for SDRs). The IMF may designate participants to provide currencies in exchange for SDRs on the basis of the strength of their balance of payments and reserve positions. A participant’s obligation to provide currency, however, does not extend beyond the point at which its SDR holdings amount to three times its cumulative SDR allocations or such higher limit as may be agreed upon between a participant and the IMF.

A participant or prescribed holder may use SDRs in a variety of voluntary transfers:

  • to obtain any currency in transactions by agreement (see below) with another participant or prescribed holder, provided that the transaction is made at the official exchange rate against the SDR as determined by the IMF;

  • in swap arrangements, in which a participant or prescribed holder may transfer SDRs to another participant or prescribed holder in exchange for an equivalent amount of currency or another monetary asset, except gold, with an agreement to reverse the exchange at a specified future date and at an exchange rate agreed upon by the parties;

  • in forward operations, in which a participant or prescribed holder can buy or sell SDRs for delivery at a future date against a currency or another monetary asset, except gold, at an exchange rate agreed by the parties:

  • to make loans of SDRs, at interest rates and maturities agreed by the parties (repayments of loans and payments of interest may be made with SDRs);

  • to settle financial obligations to another participant or prescribed holder;

  • as security for the performance of financial obligations, either by pledging SDRs, which can be earmarked for the duration of the pledge by being recorded in a special register kept by the IMF. or by agreeing with another participant or prescribed holder that SDRs will be transferred as security for the performance of an obligation, and that the SDRs will be returned to the transferor when its obligation under the agreement has been fulfilled; and

  • in donations (grants).

As already noted, the IMF holds SDRs in the General Resources Account. There are sizable transfers of SDRs from participants to the GRA (regularly for repurchases and charges, and periodically for quota payments), and from the GRA to participants (most importantly, for purchases and the payment of remuneration).67 Transfers of SDRs among participants and prescribed holders, as well as transfers to and from the GRA, are summarized in Table 12. In addition, SDRs may be used under special arrangements in operations under the SAF and the ESAF, or under other Administered Accounts of the IMF, Special arrangements are needed for these operations because the Special Disbursement Account and Administered Accounts may not hold SDRs.

Table 12.

Transfers of SDRs

(In millions of SDRs)

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The designation mechanism guarantees that a participant with a need to use SDRs for balance of payments purposes is able to obtain an equivalent amount of usable currency for this purpose without delay. This mechanism constitutes the legal backing of the SDR system and demonstrates its cooperative basis, in that the usability of the SDR derives from the willingness of participants to provide usable currencies to other participants in exchange for SDRs. Participation in the SDR Department carries with it the obligation to provide currency (within limits) when designated and the right to use SDRs in case of a balance of payments need.

Transactions by agreement—that is, voluntary transactions for which no balance of payments need is required—have played an increasingly important role over the past decade. Since September 1987, no transactions with designation have taken place because all exchanges of SDRs for currency were accommodated through transactions by agreement. The IMF helps to arrange transactions by agreement for members and prescribed holders by bringing together participants and prescribed holders that are ready to buy or sell SDRs. either under standing arrangements or on an ad hoc basis. The cooperation of a number of members in standing ready to buy and sell SDRs within certain limits (two-way arrangements) has been very helpful in developing the scope of transactions by agreement.

As of end-June 1998, revolving two-way arrangements for voluntary SDR transactions had been established with 12 members. Participants entering into such arrangements specify the maximum and minimum levels of holdings within which the IMF is authorized to arrange sales or purchases of SDRs on their behalf, the currencies for which they are prepared to exchange SDRs, and whether transactions are to be settled in three business days or sooner. These arrangements permit potential purchases or sales of up to SDR 2.5 billion in exchange for U.S. dollars, deutsche mark, Japanese yen, French francs, and pounds sterling but can, because of their revolving nature, facilitate a much larger volume of transactions over time. In addition to the two-way arrangements, one member has established a standing arrangement to sell SDRs. These two-way and one-way arrangements have facilitated the smooth functioning of the SDR system by accommodating excess demand or supply of SDRs without recourse to the designation process.68

SDR as a Reserve Asset

Given the relatively small volume of cumulative allocations of SDRs to date, SDRs accounted for only about 1.7 percent of IMF members’ nongold reserves at end-June 1998. Therefore, the role of the SDR as an international reserve asset remains rather limited. The SDR as yet has played only a limited role as a medium of exchange, largely because SDRs can be held and traded only by official entities. Some payments to the IMF must, and others may, be made in SDRs.69 In addition, the SDR has been used to denominate financial instruments created outside the IMF (“private SDRs”), but the market for private SDRs has remained limited.

SDR as a Unit of Account

The SDR has, however, an important role as a unit of account. The IMF and a number of international and regional organizations use it exclusively as a unit of account or as the basis for their units of account.70 Several international conventions also use the SDR as a unit of account, notably those expressing liability limits for the international transport of goods and services. The International Air Transport Association uses movements in the exchange rates of currencies against the SDR as a trigger to review and revise cargo tariffs in local currencies. At end-June 1998, exchange rates of the currencies of four IMF member countries were pegged to the SDR.