Relationship between International Reserves and FX Rate Movements

Abstract

This paper investigates the relationship between international reserves changes and foreign exchange rate movements for five Far Eastern countries (China, Japan, Taiwan, Hong Kong, and Korea) from January 1997 to May 2020. We use the quantile Granger causality test and the quantile autoregressive model to capture the monetary authorities’ motivations for intervention. The primary results of this study are as follows. First, in China and Hong Kong, we capture the mercantilists’ motive of accumulating their international reserves for the purpose of responding to the appreciation of currencies. Relatively speaking, the monetary authorities’ motivation for precautionary stabilizing their currencies is high in Korea and Japan. Second, we identify the asymmetric causal relationship between the variables. Considering the causal relationship with significant regression coefficients, these characteristics are found to be more evident in all countries. Last, we confirm the properties of the quantile- and tail-dependent relationship between the variables. In particular, Korea has a relatively stronger tail-dependence than other countries. That is, the causal relationship between the Korean foreign exchange reserves and the exchange rate is stronger at the rapid fluctuations of the variables, and this relationship is weakened at the moderate fluctuations of them.

Navigating Uncharted Waters: The Transformation of the Bank of Korea’s Monetary Policy in Response to Global Economic Uncertainty

“…For instance, studies by Hwang and Suh [106] and Shim [107] support the link between foreign demand and export growth, while Han and Hur [108] and Lee and Park [109] highlight the inflationary pressures arising from an increased monetary supply. Conversely, Lee and Kim [110], Lee and Yoon [111], and Cabral et al [60] present a differing viewpoint on the responsiveness of the nominal exchange rate to monetary policy interventions, indicating less volatility than observed in our study. This analysis synthesizes insights from these studies to provide a comprehensive understanding of the South Korean economic response to external shocks.…”

Modelling the Demand for Indonesia’s Foreign Reserves

“…Therefore, a change in foreign reserve holdings is associated with the disequilibrium in the domestic money market (Ford and Huang, 1994). International reserves will enlarge when there is an excess demand for money, by assuming that the domestic credit is constant; and conversely international reserves will shrink if there is an oversupply of money (Lee and Yoon, 2020). Thus, according to the monetary approach, the international reserves are residual holding by a country (Edwards, 1985).…”

“…Under a pure flexible exchange rate system, on the other hand, countries theoretically need not have much reserve (Lee and Yoon, 2020). The exchange rate is solely determined in the market mechanism through full interaction between demand and supply forces.…”

Accumulation of foreign exchange reserves in the function of preventing currency crisis

“…International disruptions in the flow of products, services and capital are the main reason for the rapid increase in FER at the international level (Kovačević, 2021). A drastic growth of FER in the world has been recorded since the nineties of the twentieth century, in the sense that countries held FER that corresponded to the value of eight months' worth of imports (Rodrik, 2006;Lee & Yoon, 2020), which is significantly higher than the optimal level. In that period, crises appeared in many countries: Brazil, Mexico, Argentina, Russia, as well as hints of the East Asian currency and financial crisis.…”