Download Emerging markets reserve accumulation

By
CAROLYN CUI and
BRIAN BLACKSTONE
Updated March 7, 2017 8:51 p.m. ET
7 COMMENTS
Central banks around the world are increasing foreign-currency reserves, highlighting the fragile
underpinnings of the global economic recovery despite a bullish mood in financial markets.
In emerging economies, reserve levels have stabilized after two years of big declines. Two-thirds
of the 30 biggest emerging markets increased reserves last year, according to Fitch Ratings.
Foreign-currency holdings in Israel, Vietnam and the Czech Republic recently reached new
records, their central banks have reported.
China’s foreign reserves rose by $6.9 billion in February compared with the previous month,
rebounding for the first time in eight months and pushing the reserve total back above the $3
trillion mark.
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Some central banks in Europe also have been padding their coffers. Switzerland’s holdings of
foreign assets jumped last month at their fastest pace in more than two years, while Denmark has
also stepped up its foreign-currency purchases.
There are likely several reasons for the concurrent increases.
Reserves rise when central banks buy foreign currencies to keep their own currencies from
appreciating too fast, which can hurt their exporters and undermine economic growth.
In Europe, big increases in reserves are often associated with periods of intense global stress.
Some analysts suggested that elections this year in France and Germany, as well as political
uncertainty in the U.S. and U.K., may be prompting investors to seek safety in currencies like the
Swiss franc, putting upward pressure on the currency. That has led the Swiss central bank to buy
foreign currencies to keep the franc from strengthening too much.
Emerging-market countries also stockpile reserves in an effort to fortify their markets and
economies against sudden shocks that could cause foreigners to pull out money.
“External reserves are a form of insurance for sovereigns against crisis and defaults,” said ChiaLiang Lian, head of emerging-market debt at Western Asset Management.
Rising reserve balances can be a reassuring sign for investors, because they show individual
nations have some capacity to deal with market shocks or economic downturns. The value of
many nations’ reserves has risen recently as the U.S. dollar has declined.
Stocking Up
Foreign reserves have stabilized in emerging markets after a period of decline.
Total reserves held by top 30 emerging–market countries (excluding China)
For some countries, reserve levels have reached new highs.
Country reserves, change from January 2014
Swiss foreign-currency reserves have been rising as the central bank intervenes to keep its
currency from strengthening too much.
Swiss National Bank's foreign-currency reserves
SOURCES: FITCH RATINGS (EM RESERVES); CEIC (CHANGE IN RESERVES); SWISS NATIONAL BANK (SWISS
RESERVES)
But many investors and analysts worry that underlying the reserve buildup are global trade and
capital imbalances that could make the world vulnerable to a fresh crisis should the flow of
capital be disrupted by political or economic unrest.
Another period of U.S. dollar strength, which some analysts are predicting if the Federal Reserve
keeps pushing interest rates higher, is one potential shock. During the global market selloff early
last year, a strong dollar and rising dollar-denominated debt levels in the developing world
prompted a rout in emerging-market assets.
The rising reserve totals also suggest that bank officials are accumulating dollars because they
have concerns about the global economy, despite a rally that has lifted the Dow Jones Industrial
Average to records this year as it soared above 21000.
The pace of economic growth is picking up in the U.S. and Europe, and analysts said that if
President Donald Trump pushes through his corporate tax overhaul and deregulation plan, the
U.S. economy could expand faster. That could lead the Fed to raise interest rates more
aggressively, triggering a reversal of capital flows from emerging markets back to the U.S.
The increase in emerging-market reserves reflects in part a rally in commodities prices, which
rose about 28% last year, according to the S&P GSCI Index, and comprise a big part of the
developing world’s exports. Capital inflows, which in emerging markets, excluding China, were
up nearly 60% last year to $192 billion, have also bolstered reserve levels for these countries.
Globally, total reserves rose in last year’s third quarter to $11.01 trillion, up from $10.97 trillion
a quarter earlier, according to the latest data available from the International Monetary Fund. The
level was below the peak of $12 trillion in mid-2014.
Reserve levels for emerging markets peaked at $8 trillion in 2014, according to the IMF. Then
they fell sharply after central banks churned through about $1 trillion of reserves to support
faltering currencies, a process by which they buy their currency using U.S. dollars or other major
currencies.
But that cash drain stopped last year. Excluding China’s holdings, reserves in the 30 biggest
emerging markets held steady at $3.9 trillion in 2016, Fitch Ratings estimated.
Despite the fact that two-thirds of the countries increased reserves, the broad number was
unchanged largely because several governments in the Middle East dipped into foreign-currency
holdings to meet budget needs during the oil-price rout.
China had been another major exception before reserves rose again last month. Economists
attributed the increase to the government’s broad measures to stem the flow of money moving
out of the country, prop up a yuan weakening against the U.S. dollar and bolster sagging
confidence in the economy.
China’s reserves fell by $320 billion last year, according to the Institute of International Finance.
Some analysts said the return to reserve growth last month could signal a notable shift after the
central bank burned through $1 trillion in foreign currency over the past few years.
“All outflow channels have been basically closed, so it is not too shocking to me,” said HSBC
Holdings PLC economist Ma Xiaoping.
In much of the rest of the developing world, reserves were already on the rise. They increased
substantially in Egypt, Nigeria and Thailand in recent months. In January, Russia added $13
billion to its $390.6 billion in reserves, its largest monthly increase in more than four years.
Many central banks also accumulate foreign reserves when they purchase assets denominated in
dollars and other hard currencies. They do this to slow down the appreciation of their currencies,
protecting exports and giving a boost to inflation. The Czech central bank intervened in January
on a large scale to maintain its currency target against the euro.
The Swiss National Bank said Tuesday that its foreign-exchange reserves swelled nearly 25
billion Swiss francs ($24.7 billion) last month to 668 billion francs, the biggest rise since
December 2014, the month before the Swiss abandoned a cap on the franc’s value against the
euro. The pile of foreign reserves is greater than Switzerland’s entire gross domestic product.
The franc is regarded as one of the world’s safest currencies given Switzerland’s stable economy
and low debt, meaning its value usually increases when investors seek safety instead of returns.
Analysts pointed to the elections in France this spring and Germany this fall as reasons for the
demand for the franc.
“Such phases of increased political uncertainty are problematic for us because the Swiss franc is
considered a safe haven,” Swiss Central Bank Chairman Thomas Jordan said in a Swiss
newspaper interview on March 4.
—Liyan Qi and Grace Zhu
contributed to this article.
Write to Carolyn Cui at [email protected] and Brian Blackstone
at [email protected]