Optimal Reserves in Financially Closed Economies

30 Pages Posted: 18 Apr 2016

See all articles by Olivier Jeanne

Olivier Jeanne

Johns Hopkins University - Department of Economics

Damiano Sandri

International Monetary Fund (IMF) - Research Department

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Date Written: March 2016

Abstract

Financially closed economies insure themselves against current-account shocks using international reserves. We characterize the optimal management of reserves using an open-economy model of precautionary savings and emphasize several results. First, the welfare-based opportunity cost of reserves differs from the measures often used by practitioners. Second, under plausible calibrations the model is consistent with the rule of thumb that reserves should be close to three months of imports. Third, simple linear rules can capture most of the welfare gains from optimal reserve management. Fourth, policymakers should place more emphasis on how to use reserves in response to shocks than on the reserve target itself.

Keywords: current account, Official reserves, precautionary savings

JEL Classification: F32, F41

Suggested Citation

Jeanne, Olivier and Sandri, Damiano, Optimal Reserves in Financially Closed Economies (March 2016). CEPR Discussion Paper No. DP11200. Available at SSRN: https://ssrn.com/abstract=2766508

Olivier Jeanne (Contact Author)

Johns Hopkins University - Department of Economics ( email )

3400 Charles Street
Baltimore, MD 21218-2685
United States

Damiano Sandri

International Monetary Fund (IMF) - Research Department ( email )

700 19th Street NW
Washington, DC 20431
United States

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