Central Banks Ratchet Up Reserves
Posted by hkarner - 9. März 2017
Source: The Wall Street Journal
‘External reserves are a form of insurance for sovereigns against crisis and defaults,’ says an analyst
In emerging economies, reserve levels have stabilized after two years of big declines.
Central banks around the world are increasing foreign-currency reserves, highlighting the fragile underpinnings of the global economic recovery despite a bullish mood in financial markets.
In emerging economies, reserve levels have stabilized after two years of big declines. Two-thirds of the 30 biggest emerging markets increased reserves last year, according to Fitch Ratings. Foreign-currency holdings in Israel, Vietnam and the Czech Republic recently reached new records, their central banks have reported.
China’s foreign reserves rose by $6.9 billion in February compared with the previous month, rebounding for the first time in eight months and pushing the reserve total back above the $3 trillion mark.
Some central banks in Europe also have been padding their coffers. Switzerland’s holdings of foreign assets jumped last month at their fastest pace in more than two years, while Denmark has also stepped up its foreign-currency purchases.
There are likely several reasons for the concurrent increases.
Reserves rise when central banks buy foreign currencies to keep their own currencies from appreciating too fast, which can hurt their exporters and undermine economic growth.
In Europe, big increases in reserves are often associated with periods of intense global stress. Some analysts suggested that elections this year in France and Germany, as well as political uncertainty in the U.S. and U.K., may be prompting investors to seek safety in currencies like the Swiss franc, putting upward pressure on the currency. That has led the Swiss central bank to buy foreign currencies to keep the franc from strengthening too much.
Emerging-market countries also stockpile reserves in an effort to fortify their markets and economies against sudden shocks that could cause foreigners to pull out money.
“External reserves are a form of insurance for sovereigns against crisis and defaults,” said Chia-Liang Lian, head of emerging-market debt at Western Asset Management.
Rising reserve balances can be a reassuring sign for investors, because they show individual nations have some capacity to deal with market shocks or economic downturns. The value of many nations’ reserves has risen recently as the U.S. dollar has declined.
But many investors and analysts worry that underlying the reserve buildup are global trade and capital imbalances that could make the world vulnerable to a fresh crisis should the flow of capital be disrupted by political or economic unrest.
Another period of U.S. dollar strength, which some analysts are predicting if the Federal Reserve keeps pushing interest rates higher, is one potential shock. During the global market selloff early last year, a strong dollar and rising dollar-denominated debt levels in the developing world prompted a rout in emerging-market assets.
The rising reserve totals also suggest that bank officials are accumulating dollars because they have concerns about the global economy, despite a rally that has lifted the Dow Jones Industrial Average to records this year as it soared above 21000.
The pace of economic growth is picking up in the U.S. and Europe, and analysts said that if President Donald Trump pushes through his corporate tax overhaul and deregulation plan, the U.S. economy could expand faster. That could lead the Fed to raise interest rates more aggressively, triggering a reversal of capital flows from emerging markets back to the U.S.
The increase in emerging-market reserves reflects in part a rally in commodities prices, which rose about 28% last year, according to the S&P GSCI Index, and comprise a big part of the developing world’s exports. Capital inflows, which in emerging markets, excluding China, were up nearly 60% last year to $192 billion, have also bolstered reserve levels for these countries.
Globally, total reserves rose in last year’s third quarter to $11.01 trillion, up from $10.97 trillion a quarter earlier, according to the latest data available from the International Monetary Fund. The level was below the peak of $12 trillion in mid-2014.
Reserve levels for emerging markets peaked at $8 trillion in 2014, according to the IMF. Then they fell sharply after central banks churned through about $1 trillion of reserves to support faltering currencies, a process by which they buy their currency using U.S. dollars or other major currencies.
But that cash drain stopped last year. Excluding China’s holdings, reserves in the 30 biggest emerging markets held steady at $3.9 trillion in 2016, Fitch Ratings estimated.
Despite the fact that two-thirds of the countries increased reserves, the broad number was unchanged largely because several governments in the Middle East dipped into foreign-currency holdings to meet budget needs during the oil-price rout.
China had been another major exception before reserves rose again last month. Economists attributed the increase to the government’s broad measures to stem the flow of money moving out of the country, prop up a yuan weakening against the U.S. dollar and bolster sagging confidence in the economy.
China’s reserves fell by $320 billion last year, according to the Institute of International Finance. Some analysts said the return to reserve growth last month could signal a notable shift after the central bank burned through $1 trillion in foreign currency over the past few years.
“All outflow channels have been basically closed, so it is not too shocking to me,” said HSBC Holdings PLC economist Ma Xiaoping.
In much of the rest of the developing world, reserves were already on the rise. They increased substantially in Egypt, Nigeria and Thailand in recent months. In January, Russia added $13 billion to its $390.6 billion in reserves, its largest monthly increase in more than four years.
Many central banks also accumulate foreign reserves when they purchase assets denominated in dollars and other hard currencies. They do this to slow down the appreciation of their currencies, protecting exports and giving a boost to inflation. The Czech central bank intervened in January on a large scale to maintain its currency target against the euro.
The Swiss National Bank said Tuesday that its foreign-exchange reserves swelled nearly 25 billion Swiss francs ($24.7 billion) last month to 668 billion francs, the biggest rise since December 2014, the month before the Swiss abandoned a cap on the franc’s value against the euro. The pile of foreign reserves is greater than Switzerland’s entire gross domestic product.
The franc is regarded as one of the world’s safest currencies given Switzerland’s stable economy and low debt, meaning its value usually increases when investors seek safety instead of returns.
Analysts pointed to the elections in France this spring and Germany this fall as reasons for the demand for the franc.
“Such phases of increased political uncertainty are problematic for us because the Swiss franc is considered a safe haven,” Swiss Central Bank Chairman Thomas Jordan said in a Swiss newspaper interview on March 4.