Handbook of Exchange Rates

19.2 FX Reserve Uses

The holding of reserves is a form of “self-insurance” against financial shocks and sudden stops in access to international capital markets. It enhances the credibility of monetary policy. Specifically, the potential uses of FX reserves can be classified in a variety of ways.

• Intervention Intervention in the FX market with a view to influencing the exchange rate and/or maintaining orderly market conditions.
• Country Payments Execution of payments for goods and services for the country, particularly during times when obtaining external financing is difficult or impossible.
• Emergency Liquidity Granting of emergency liquidity assistance to various sectors of the economy, typically the banking sector.
• Investor Confidence Underpinning of investor confidence in the country's ability to meet its FX commitments, thereby also limiting the probability of financial crisis and possibly also reducing the cost of external funding (the “war chest” motive).
• Government Payments Execution of payments for the government, possibly in the context of broader debt management operations.
• Execution of Monetary Policy Support of domestic monetary policy liquidity management operations, for example, through FX swaps, effectively using FX claims as collateral.
• Investment of Excess Balances Investment of balances in excess of foreseeable liquidity/transaction needs (Source: BIS Paper #38, p. 2).
• Funding of Development/Sovereign Wealth Funds Excess reserves have increasingly been used to ...