Understanding The Latest International Reserve Figures

At the end of every quarter, the IMF publishes the most authoritative reserve data with a three-month lag. On Good Friday, the IMF published Q4 17 reserve holdings. A recent article on Bloomberg played up an economist’s forecast that euro reserves would increase by $500 bln over the next couple of years. A review of the reserve data may help us evaluate such a claim, which if true, could have important implications for international investors. 

Let’s first review a few basics. The IMF COFER report is a high-level account of central bank reserves that includes level and currency allocation.  However, not all central banks report the currency allocation of their reserves. Some countries regard this as a national secret. Other central banks are incredibly transparent and regularly publish the allocation of their reserves, such as the Swiss National Bank, which also lists the foreign equities it owns on its website. Allocated plus unallocated reserves equal total reserves.

Global reserves are reported in US dollar terms. It is the dollar value of those reserves that is tracked. The reserves are mostly held in interest-bearing securities. Given the relative volatility of currencies and bonds, the change in exchange rates can drive the changes in valuation separate from changes in quantities of holdings. The implication is that any analysis that does not take swings in valuation into account may produce misleading conclusions.   

Two main forces have driven the changes in the reserves figures. First, for the past few years, China, which previously did not report the allocation of its reserves but has been doing so gradually, preserving some degree of confidentiality. 

In late 2014, unallocated reserves accounted for a little more than 41% of total reserves, or about $4.841 trillion. As of the end of 2017, the unallocated share had slipped below 17% to stand at $1.860 trillion. We note that the $3 trillion decline largely matches the size of China’s reserves, suggesting that it may be nearly done sharing the allocation of its reserves. 

Allocated reserves stood at $10.019 trillion at the end of 2017, which is a $373 bln increase on the quarter.  The value of the unallocated reserves fell by $204 bln. The decline was likely along the line we suggested as China adopts the best practices. The IMF reports that overall reserves rose to $11.425 trillion, a $220 bln increase. From a bottoms up analysis, we conclude that this increase is largely a function of valuation adjustments and not a significant increase in demand for new reserve assets.   

At the end of last year, 62.7% of the global reserves that were allocated were invested in dollars or $6.282 trillion, which the media reports is a four-year low. Reserves denominated in dollars increased by $156 bln on the quarter, and none can be attributed to the dollar’s exchange rate. Without pretending a precision we don’t have, suffice it to be said that price of US dollar debt fell in Q4 17. To get some sense of the magnitude, recall that the US 5-year yield (a rough proxy of central bank tenor, we assume) rose about 25 bp over the course of the quarter, which is something on the magnitude of 0.7%.  

The dollar’s share of reserves has eased. It stood at 65.3% at the end of 2016 and 65.7% at the end of 2015. However, note that even if there is no change in the quantity of reserves, a shift in the exchange values can produce a change in the allocation. It appears that the dollar’s share of reserves don’t change as much as the exchange rate implies, confirming that central banks target the composition (efficient frontier or benchmark). Individual central banks may have different allocations, but the percentage reserves allocated to dollars appears steady, a little more than 60%.