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Contingent Reserves Management: An Applied Framework

  • Ricardo J. Caballero
  • Stavros Panageas

One of the most serious problems that a central bank in an emerging market economy can face, is the sudden reversal of capital inflows. Hoarding international reserves can be used to smooth the impact of such reversals, but these reserves are seldom sufficient and always expensive to hold. In this paper we argue that adding richer hedging instruments to the portfolios held by central banks can significantly improve the efficiency of the anti-sudden stop mechanism. We illustrate this point with a simple quantitative hedging model, where optimally used options and futures on the S&P100's implied volatility index (VIX), increases the expected reserves available during sudden stops by as much as 40 percent.

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File URL: http://www.nber.org/papers/w10786.pdf
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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 10786.

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Date of creation: Sep 2004
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Publication status: published as Ricardo J. Caballero G. & Stavros Panageas, 2005. "Contingent Reserves Management: an Applied Framework," Journal Economía Chilena (The Chilean Economy), Central Bank of Chile, vol. 8(2), pages 45-56, August.
Handle: RePEc:nbr:nberwo:10786
Note: EFG IFM
Contact details of provider: Postal: National Bureau of Economic Research, 1050 Massachusetts Avenue Cambridge, MA 02138, U.S.A.
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  1. Ricardo J. Caballero & Arvind Krishnamurthy, 2004. "Inflation Targeting and Sudden Stops," NBER Chapters, in: The Inflation-Targeting Debate, pages 423-446 National Bureau of Economic Research, Inc.
  2. Pablo García & Claudio Soto, 2004. "Large Hoardings of International Reserves: Are They Worth It?," Working Papers Central Bank of Chile 299, Central Bank of Chile.
  3. Black, Fischer & Scholes, Myron S, 1973. "The Pricing of Options and Corporate Liabilities," Journal of Political Economy, University of Chicago Press, vol. 81(3), pages 637-54, May-June.
  4. Jaewoo Lee, 2004. "Insurance Value of International Reserves; An Option Pricing Approach," IMF Working Papers 04/175, International Monetary Fund.
  5. Laurence Ball & Niamh Sheridan, 2003. "Does Inflation Targeting Matter?," NBER Working Papers 9577, National Bureau of Economic Research, Inc.
  6. Ricardo J. Caballero & Stavros Panageas, 2003. "Hedging Sudden Stops and Precautionary Contractions," NBER Working Papers 9778, National Bureau of Economic Research, Inc.
  7. Joshua Aizenman & Jaewoo Lee, 2005. "International Reserves; Precautionary vs. Mercantilist Views, Theory, and Evidence," IMF Working Papers 05/198, International Monetary Fund.
  8. Reinhart, Carmen & Calvo, Guillermo, 1999. "Capital Flow Reversals,the Exchange Rate Debate,and Dollarization," MPRA Paper 8951, University Library of Munich, Germany.
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