Working Paper: CEPR ID: DP6723
Authors: Olivier Jeanne; Romain Ranciere
Abstract: We present a model of the optimal level of international reserves for a small open economy seeking insurance against sudden stops in capital flows. 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 build-up of reserves in emerging market Asia seems in excess of what would be implied by an insurance motive against sudden stops.
Keywords: balance-of-payments crises; international reserves; sudden stops
JEL Codes: F32
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| optimal level of international reserves (F30) | economic stability of emerging market countries (F65) |
| probability of sudden stops (C69) | optimal level of international reserves (F30) |
| output loss during sudden stops (R41) | optimal level of international reserves (F30) |
| opportunity cost of holding reserves (F31) | optimal level of international reserves (F30) |
| optimal level of international reserves (F30) | consumption smoothing (D15) |
| reserves buildup in emerging market countries (F32) | optimal level of international reserves (F30) |
| policies maintaining large current account surpluses (F32) | reserves buildup in emerging market countries (F32) |