Reserve Reverse?

Around the world, reserves of US dollars and Treasury securities have more than doubled over the past 5 years.  It’s nice for us when we get to buy goods and pay in paper but what will happen when we face reserve reverse?  And why, asks Eduardo Porter, do poor countries continue to fund our consumption?

The amount that poor countries are giving up by holding low yield Treasuries is not inconsiderable.  Larry Summers calculates that India has reserves in excess of those required for prudent insurance in the realm of 100 billion dollars – if invested in higher paying assets those reserves could raise Indian GDP by 1-1.5%, more than double the amount that India spends on health care.


The problem is that estimates of the "optimal" reserves are wrong. In India, China and most developing country with barriers to invest abroad, central banks are in charge of diversifying the investment of domestic banks´portfolios by investing part of their deposits abroad. Given the many weaknesses of domestic banks and their domestic borrowers, I´d say that they should invest abroad at least 25% of their total domestic deposits. Without looking at the data, I bet that their reserves are well below that percentage. I´m sure they will continue investing in US bonds as long as their domestic deposits continue to increase, and they will do as long as their economies continue to grow.

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I'm with Brian, at least as regards China.

Now, certainly a significant change in reserve policy by any of China, India or Japan would cause U.S. asset inflation, and probably CPI inflation as well. Does that mean that when one of them moves, they will all rush for the exits at once?

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