Role of Gold in Foreign Exchange Reserves of Commodity Exporting Countries

Abstract

The gold is still a reserve asset with specific features yet the variants of reserve management have improved considerably. Tendency to maintain ultra-low real interest rates potentially should affect the upward shift in demand on gold because alternative costs of holding it are declining. Demand for gold has indeed risen from the side of central banks recently. At the same time, there is no consensus in economic literature about optimal share of gold in foreign exchange reserves. However, it is presumed that incentives for more diversification are stronger than reserves hoarding is abnormal. Commodity exporters have accumulated large reserve over the last decades. Thus, their diversification decisions in favour of gold seem to be natural. However, empirical analysis paints a more complicated picture. A) Commodity exporters are getting to be more and more heterogeneous in terms holding gold as a share of foreign assets. Such heterogeneity is more vivid compared to the world as a whole. B) Distribution of gold reserves among commodity exporters is changing toward increasing number of countries with gold holdings over the median size for the group. C) There is direct correlation between global commodity prices and gold holdings in tons, but an inverse relationship in the case of share of gold in reserves. This leads to the conclusion that there are two types of demand on gold: endogenous as a function of gradual hoarding of foreign exchange reserves, and specific, that is driven by specific portfolio management needs and non-economic factors. This finding is consistent with features of holding reserves in countries with large hoarding and strong vulnerability to terms-of-trade shocks and features of political regimes in countries with resource abundance.

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“…N. Kuryacha & V. Maier (2020) addressed the trends of currency regulation of international reserves, their structure and dynamics, and determined the influence of macroeconomic indicators on the size of international reserves, as well as the change of components in the structure of FX reserves depending on the economic situation. Empirical analysis of several indicators of FX reserves worldwide by V. Koziuk (2021) showed intersystem demand for gold tied to the general trend of increasing reserves, as well as demand for gold determined by specific reasons.…”

Essence and modern trends in the formation and management of international reserves

“…N. Kuryacha & V. Maier (2020) addressed the trends of currency regulation of international reserves, their structure and dynamics, and determined the influence of macroeconomic indicators on the size of international reserves, as well as the change of components in the structure of FX reserves depending on the economic situation. Empirical analysis of several indicators of FX reserves worldwide by V. Koziuk (2021) showed intersystem demand for gold tied to the general trend of increasing reserves, as well as demand for gold determined by specific reasons.…”

The Geopolitical “Puzzle” of the Central Bank’s Switch to Gold

“…Moreover, geopolitical risks are not a reason for the automatic reaction of central banks in the direction of changing the management of external assets. In Koziuk (2021), the dominance of geopolitical factors in the behavior of gold prices is questioned. Uncertainty of economic policy has a more pronounced effect on the behavior of prices for precious metal.…”