from Follow the Money

Reserve financing, April update

May 11, 2005

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Blog posts represent the views of CFR fellows and staff and not those of CFR, which takes no institutional positions.

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Most major emerging economies -- China excepted -- have reported their reserves. The reserves of 10 major emerging economies (NICs, Malaysia, Thailand, India, Brazil, Mexico and Russia) rose at a steady but not spectacular $15 billio clip in April. $7 billion of that increase came from Russia.

Add in $20 billion from China, and the underlying pace of reserve accumulation by these economies was $35b, or $420 billion a year. That is not a small number. But it also is well off their pace of reserve accumulation in the fourth quarter of 2004, and a bit below my forecast of around $500 billion in reserve accumulation from this set of countries (and $600 b globally).

Foreign central banks certainly did not add to their custodial accounts at the NY Fed during April (they added a bit in the first week of May).

Two big caveats though.

First, I expect China added more than $20 billion to its reserves in April. Why? All the noise coming out of China about hot money inflows, noise that has been backed up by new restrictions on the ability of Chinese banks (and foreign banks operating in China) to borrow dollars from abroad (Borrowing dollars and converting the proceeds to renminbi is one way to bet on a change in the currency peg). Where there is smoke, there is often fire.

An aside: Notice how many controls China is introducing to support the peg. Controls on foreign borrowing. Controls on domestic lending. Controls on the domestic petrol price, which is higher than it would otherwise be in renminbi terms because of the peg. I am not so sure that keeping the peg is contributing to fundamental reform in China rather than setting it back.

Second, Russia’s reserve accumulation has averaged $6.5 billion a month for the past three months (they paid off a lot of debt in January) -- an annual pace of around $75-80 b. That is a lot of money. Russia certainly has lots of oil, and even more natural gas. But so do a number of other countries. I suspect that $100 b in reserve accumulation by the oil superpowers of the Middle East is conservative, in some real sense. However, it is bit hard to guestimate the right expected division between public and private reserves. The Saudi ruling family certainly is rumored to be worried about its long-term control of certain key oil fields.

My key points:

Reserve accumulation is increasingly not an "Asian" story but a China story. Not entirely, but China increasingly dominates the overall numbers.

And it increasingly is a "China and the oil exporters" story. The "oil exporters" get a bit less attention than the big Asian economies. They typically don’t compete with US manufacturing industries, and thus don’t generate accusations of currency manipulation. Their accounts are opaque so their money is hard to track. But the fact that oil exporters are -- so it seems -- saving rather than spending their oil windfall has something to do with the global savings glut, such as it is.

Right now, it would not shock me if China added $300 b to its reserves in 2005 (including funds used for bank recapitalization) and the oil exporters added close to $200 b, if not more. That leaves only $100 b in reserve accumulation for the rest of Asia and other emerging economies to meet my global forecast. Good thing they are adding to their reserves too; their dollars sure are needed in here the States to finance vital spending priorities ...

One last note: Doesn’t demand for Treasuries from a flight to quality in the US triggered by rumors about hedge funds a good opportunity for some foreign central banks to lighten up their Treasury portfolio? Of course, then they have to invest in something else.

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