The Optimal Level of International Reserves for Emerging Market Countries: Formulas and Applications

35 Pages Posted: 13 Nov 2006

See all articles by Olivier Jeanne

Olivier Jeanne

International Monetary Fund (IMF) - Research Department; Ecole Nationale des Ponts et Chaussees (ENPC); Centre for Economic Policy Research (CEPR)

Romain G. Rancière

University of Southern California

Date Written: October 2006

Abstract

We present a model of the optimal level of international reserves for a small open economy that is vulnerable to sudden stops in capital flows. Reserves allow the country to smooth domestic absorption in response to sudden stops, but yield a lower return than the interest rate on the country's long-term debt. We derive a formula for the optimal level of reserves, and show that plausible calibrations can explain reserves of the order of magnitude observed in many emerging market countries. However, the recent buildup of reserves in Asia seems in excess of what would be implied by an insurance motive against sudden stops.

JEL Classification: F32

Suggested Citation

Jeanne, Olivier and Rancière, Romain G., The Optimal Level of International Reserves for Emerging Market Countries: Formulas and Applications (October 2006). IMF Working Papers, Vol. , pp. 1-33, 2006. Available at SSRN: https://ssrn.com/abstract=941291

Olivier Jeanne (Contact Author)

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

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Ecole Nationale des Ponts et Chaussees (ENPC) ( email )

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75007 Paris
France
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Centre for Economic Policy Research (CEPR)

London
United Kingdom

Romain G. Rancière

University of Southern California ( email )

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Los Angeles, CA 90089
United States

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