On the Effectiveness of Foreign Exchange Reserves During the 2021-22 U.S. Monetary Tightening Cycle

This paper examines the role of foreign exchange (FX) reserves and other fundamental factors in explaining cross-country differences in foreign currency depreciation observed over the 2021-22 Federal Reserve monetary policy tightening cycle that led to a sharp appreciation of the US dollar. Using a broad cross-section of over 50 countries, we document that an additional 10 percentage points of FX reserves/GDP held ex-ante was associated with 1.5 to 2 percent less exchange rate depreciation. We also find that higher ex-ante policy rates were associated with less depreciation, especially among financially open economies. Taken together, these results support the buffering role of FX reserves and their potential to promote monetary policy independence in the presence of global spillovers