Reserves Management and FX Intervention

Emerging market economies (EMEs) have increased their reserves holdings primarily for self-insurance. The South African Reserve Bank (SARB) has accumulated its foreign exchange (FX) reserves for the same reason, recognising the need to reduce external vulnerability. Both debt issuance and the growth in the monetary base have been used to fund reserve accumulation, and therefore the cost (of holding reserves) comes through the cost of foreign debt issuance and the opportunity cost of forgone monetary accommodation to banks. As a benefit of FX reserve accumulation, reserves as a means of self-insurance can bolster investor confidence, particularly during a crisis, while the level of reserves often plays an important role in broader sovereign credit rating assessments. More recently, and in South Africa's case, other macro factors such as GDP growth and fiscal debt metrics have tended to be ratings-sensitive.Most EMEs have remained active in the FX markets for various reasons, ranging from attempts to limit exchange rate volatility and/or influencing the level of the exchange rate, to accumulating foreign reserves. This note delves into the evolution of the SARB's FX intervention objectives, strategies and tactics, as South Africa has become more integrated with the global financial markets. It also highlights the impact of FX intervention on official reserves and the rand exchange rate. Currently, the SARB's intervention in the FX market is aimed at gradually building up the official reserves without unduly influencing the rand exchange rate in either direction.The SARB's FX reserves management has matured over time, resulting in the introduction of new asset classes and currencies. There has been a growing focus on the cost of holding reserves as the size of the FX reserves has grown, and the note describes the use of tranches in the foreign exchange reserves portfolio to adequately address both the liability hedging requirements and return motivations. The note concludes by briefly touching on the SARB's securities lending and external fund management programmes.Full Publication: "https://ssrn.com/abstract=3497854" Reserve Management and FX Intervention