Foreign reserves management subject to a policy objective
AbstractThis paper studies the implications of introducing an explicit policy objective to the management of foreign reserves at a central bank. A dynamic model is developed which links together reserves management and the exchange rate by foreign exchange interventions. The exchange rate is modelled as a mean-reverting autoregressive process incorporating a linear response to interventions. The premise is that it is the objective of the central bank to prevent undervaluation of its currency. Given this objective, the model is formulated in a one- and a multi-period setting and solved to find the optimal asset allocation. The results show that asset allocation can significantly help in achieving the desired policy objective. JEL Classification: G11, F31
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Bibliographic InfoPaper provided by European Central Bank in its series Working Paper Series with number 0624.
Date of creation: May 2006
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Find related papers by JEL classification:
- G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
- F31 - International Economics - - International Finance - - - Foreign Exchange
This paper has been announced in the following NEP Reports:
- NEP-ALL-2006-06-03 (All new papers)
- NEP-CBA-2006-06-03 (Central Banking)
- NEP-FIN-2006-06-03 (Finance)
- NEP-FMK-2006-06-03 (Financial Markets)
- NEP-IFN-2006-06-03 (International Finance)
- NEP-MON-2006-06-03 (Monetary Economics)
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