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About International Reserve Adequacy: The Case of Chile

  • Claudio Soto G.
  • Alberto Naudon D.
  • Eduardo López E.
  • Álvaro Aguirre R.

Under a flexible exchange rate regime, international reserves contribute to reducing the risk of a financial crisis, and allow the monetary authority to intervene exceptionally in the exchange market. However, holding reserves is costly. In this paper, we analyze several issues concerning the adequate level of Chilean international reserves. First we compare the level of Chile's international reserves with those of different sets of countries, using various indicators. We then analyze empirically some of the benefits and costs of holding reserves. Our results show that Chile's international reserves are high when measured with respect to GDP or M2, but they are in line with those of countries of similar characteristics when measured as a fraction of short-term residual debt. On the other hand, given the low risk of the Chilean economy, marginal changes in reserves have a very low impact on both the probability of a financial crisis and the sovereign spread of the country. Finally, as the sovereign spread has decreased over the last years, so too has the cost of reserves. In fact, over the past few years Chile's cost of reserves as a fraction of GDP has been considerably lower than the cost of other emerging economies.

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File URL: http://www.bcentral.cl/estudios/revista-economia/2004/dic/Vol7N3dic2004pp5_34.pdf
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Article provided by Central Bank of Chile in its journal Economía Chilena.

Volume (Year): 7 (2004)
Issue (Month): 3 (December)
Pages: 5-34

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Handle: RePEc:chb:bcchec:v:7:y:2004:i:3:p:5-34
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  1. Fernando Aportela & Francisco Gallego & Pablo García, 2003. "Reserves Over the Transitions to Floating and to Inflation Targeting: Lessons From the Developed World," Working Papers Central Bank of Chile 211, Central Bank of Chile.
  2. Kumar, Mohan & Moorthy, Uma & Perraudin, William, 2003. "Predicting emerging market currency crashes," Journal of Empirical Finance, Elsevier, vol. 10(4), pages 427-454, September.
  3. Flood, Robert P. & Marion, Nancy P., 2004. "A model of the joint distribution of banking and currency crises," Journal of International Money and Finance, Elsevier, vol. 23(6), pages 841-865, October.
  4. Carmen M. Reinhart & Kenneth S. Rogoff, 2002. "The Modern History of Exchange Rate Arrangements: A Reinterpretation," NBER Working Papers 8963, National Bureau of Economic Research, Inc.
  5. Sebastian Edwards, 1984. "The Demand for International Reserves and Monetary Equilibrium: Some Evidence From Developing Countries," NBER Working Papers 1307, National Bureau of Economic Research, Inc.
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  8. Fernandez-Arias, Eduardo, 1996. "The new wave of private capital inflows: Push or pull?," Journal of Development Economics, Elsevier, vol. 48(2), pages 389-418, March.
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  10. Olivier Jeanne, 2001. "The International Lender of Last Resort; How Large is Large Enought?," IMF Working Papers 01/76, International Monetary Fund.
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  12. Aizenman, Joshua & Marion, Nancy P., 2003. "International Reserve Holdings with Sovereign Risk and Costly Tax Collection," Santa Cruz Center for International Economics, Working Paper Series qt9s7978n1, Center for International Economics, UC Santa Cruz.
  13. Andrew Berg & Catherine Pattillo, 1999. "Are Currency Crises Predictable? A Test," IMF Staff Papers, Palgrave Macmillan, vol. 46(2), pages 1.
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  15. Matías Tapia & Andrea Tokman, 2003. "Efectos de las intervenciones en el mercado cambiario: el caso de Chile," Estudios de Economia, University of Chile, Department of Economics, vol. 30(1 Year 20), pages 21-53, June.
  16. Martin Feldstein, 1999. "Self-Protection for Emerging Market Economies," NBER Working Papers 6907, National Bureau of Economic Research, Inc.
  17. Frankel, Jeffrey A. & Rose, Andrew K., 1996. "Currency crashes in emerging markets: An empirical treatment," Journal of International Economics, Elsevier, vol. 41(3-4), pages 351-366, November.
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  21. Ilan Goldfajn & Rodrigo Valdés, 1997. "Balance of Payments Crises and Capital Flows: The Role of Liquidity," Working Papers Central Bank of Chile 11, Central Bank of Chile.
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