Emerging markets, generally

The size of currency reserves in emerging countries – a reliable indicator?

Tuesday, August 6th, 2019

Är valutareserven en pålitlig indikator för ekonomisk stabilitet på tillväxtmarknader?

Sammanfattning på svenska / Summary in Swedish

¤  Valutareservens storlek framstår inte nödvändigtvis som en pålitlig ekonomisk bedömnings- eller stabilitetsfaktor på en s k tillväxtmarknad (emerging market). Men det är givetvis bättre att valutareseven till exempel täcker tio månaders import än bara två månaders import. Emerging markets behöver normalt längre importtäckning genom valutareserven än etablerade OECD/EU-länder.

¤  En viktig indikation är också i vilken utsträckning valutareserven kan täcka eventuella bytesbalansunderskott och åtaganden från utlandsskulder. Graden av finansmarknadernas avreglering för gränsöverskridande kapitalrörelser kan dock utgöra ett viktigare analysinslag. China till exempel är i detta avseende fortfarande starkt reglerat. Vidare ger den tidsmässiga fördelningen av utlandsupplåningen (korta mot längre krediter) viktig information om behovet av utlandsvaluta inom överskådlig tid.

¤  Ibland kan också en välfylld valutareserv snabbt leda till valutabrist och en ohållbar situation. Så skedde exempelvis i Mexiko 1994, i Thailand och Malaysia 1997 samt i Lettland år 2008.


We still can note every month quite a number of comments on changes of the size of Chinese currency reserves (see my previous blog on chinaresearch.se) – also when economically irrelevant changes happen by just a few billion dollars. Of course, the size of currency reserves of a country deserves analytical attention (but usually not so much in OECD/EU countries).

Why is that need? There may be quite a number of reasons. Let me in this context sum up five of the most important ones.

Motives for a reasonable size of currency reserves

¤ Currency reserves must cover (normal and necessary) imports by emerging markets for quite some time. However, the definition of “quite some time” may vary. Of course, I like ten months import coverage better than only two months coverage.

¤ Currency reserves are also an important indicator for the ability to serve foreign debt commitments. Necessary reserve volumes for this purpose depend to a high extent on the size of the foreign debt. Usually, I would like to see that commitments from foreign debt and the current account are covered at least a couple of quarters ahead. But such a time horizon cannot function as reliable guidance either. Therefore, foreign-debt structure (short term vs long term) and bond rate differentials vis-à-vis USD bonds may give other and better indications than combined numerical warning signals for foreign debt and the current account balance.

¤ Currency reserves can be used to intervene on forex markets – usually not officially announced or confirmed – when the own currency is considered as being too strong or sometimes even too weak by domestic decision-makers, usually coming from the political sphere.

¤ The important development of an emerging country’s current account is also linked to the size of the currency reserves. However, deficits in the current account can only be financed in four ways,

  • by receiving foreign direct investments (FDI) -> usually the best way,
  • by borrowing money abroad -> with obvious limitations,
  • by selling treasury bills, bonds and stocks to other countries -> risky,
  • by reducing the currency reserves -> a very limited possibility.

¤ A relatively high level of currency reserves may also serve as a psychological indicator for economic and financial strength. This kind of function is certainly much more important in emerging countries than in advanced and at the same time well-working economies.

What is sufficient?

Unfortunately, there are no clear thumb rules about necessary currency volumes that may be high enough to have sufficient protection against a potential future economic and/or financial crisis. The mood of global financial markets may differ from time to time, and so may the quality of the government in the affected emerging market. Variations may also show up when it comes to contagion risks to other countries, to the GDP-growth situation in the global economy or to an emerging country’s ongoing deregulation process of the capital account.

Altogether we should keep in mind that no safe prediction can be made about the sufficiently secure size of currency reserves in emerging markets. Mexico in 1994, Thailand and Malaysia in 1997and also Latvia in 2008 seemed to be on the safe side with the size of their pre-crisis levels of the currency reserves. However, developments became suddenly very stormy – and they derailed then very rapidly.

Hubert Fromlet
Affiliate Professor at the School of Business and Economics, Linnaeus University
Editorial board


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China’s two strategies

Tuesday, December 18th, 2018

A few weeks ago, I attended one of these interesting conferences on China. One of the presentations there focused on Chinese political strategies, singling out that China more or less exclusively concentrates on domestic developments. This is not quite in line with reality.

China’s global ambitions
Sure, politicians in all countries primarily work with the future of their own country. So does China, for example by putting more weight than before on private consumption at the expense of unnecessary investments – and by favoring education, research, innovation, technical progress (digitalization and AI) and competitive (new) products, also for exports.

Nonetheless, there is no doubt about China’s global ambitions. Economically, China already performs as the no 1 in the world when measuring total GDP in PPP terms – and in dollar terms this may happen in the next decade.

Global ambitions can be underlined by different kinds of clarifications. Huawei and a number of construction companies can serve serve as visible corporate (micro) examples.

On a geographical level, strong Chinese efforts can be watched in a number of African countries. The other week, there was quite an illuminating article in China Daily about China’s ambitions in Africa. They do not write about about China’s future needs of commodities. Instead, China Daily points at Chinese opportunities to contribute to Africa’s future development – for example by projects dealing with construction, energy, manufacturing, information and communications technology, AI, and by giving skills to Africans about the Chinese market.

The rapidly growing African population is frequently mentioned, probably as an indicator for market potential (despite the fact that African GDP-growth numbers are not really comparable to those of China because of their different levels of development).

Another example: China’s particularly ambitious Belt and Road Initiative (BRI) is intended to link together even several continents – Asia and Europe but obviously also to some extent Africa – because there is also a maritime component in the BRI project. China’s strongly prioritized BRI plans aim to increase cross-border trade for 65 countries by constructing roads, railways, harbors etc. – including both a land and maritime Silk Road. From China to Duisburg in Germany!

It will be most interesting to watch the future of the BRI project which is highly ranked by Chinese political leaders – but not sufficiently observed and analyzed in Europe. Perhaps more Chinese transparency would be helpful in this respect.

Also the international upgrading of the currency renminbi fits into China’s internationalization strategy. The renminbi is now part of the IMF:s Special Drawing Rights (SDRs). Furthermore, the renminbi (RMB) belongs these days to the five most frequently used currencies in international trade finance – which happened without convertibility of the RMB. Thus, reality reflects the importance of China in international trade.

Potential threats
Certainly, American protectionism will remain a threat to Chinese globalization efforts – at least as long president Trump remains in power. But China will also make strong attempts to intensify or enlarge other international or bilateral alliances. The UK is already quite aggressive in getting closer to China.

Another threat – so far not outspoken – may some day come from potential deficits in the current account. The net of Chinese exports and imports will this year end quite close to zero and – in any case – confirm the weakening trend of the current account balance.

Persisting deficits at some point in the future – if they should show up but the risk is there – could shatter at least to some extent China’s ambitious global strategy.

Simply because China would have less own money to invest outside the country.

I wish you all a wonderful holiday season!

Hubert Fromlet
Affiliate Professor at the School of Business and Economics, Linnaeus University
Editorial board


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Brazil – still the country of hope

Monday, October 29th, 2018

Now we know that Jair Bolsonaro will be Brazil’s next president. Can he make a positive difference to previous presidents?

What we do know is that right-wing president-elect Bolsonaro has many radical views which are not particularly popular in a European perspective. At the same time there is no doubt that Brazil needs to meet its burdening challenges much more decisively.

Several decades of economic and political muddling through should finally  come to an end. Will “Brazil’s Trump” – as he frequently is called by opponents – be the man to put Brazil on a more favorable track?

Bolsonaro – who is not very skilled in economics – seems to know what the Brazilians really are tired of, i.e. criminality and corruption. However, research also tells us that these kinds of institutional failures and problems are extremely difficult to combat. It remains to be seen whether Bolsonaro will find the appropriate sustainability and means to fight successfully against crime and corruption.

However, this is exactly the main reason why a majority of the Brazilian people voted for him. But his voters also want to see major improvements of the strongly underperforming educational system.

Good education on all levels for a small minority and poor educational conditions for a vast majority has been characterizing the stance of education during many years.

This negative spiral has to broken if Brazil ever can develop into a really future-oriented and successful economy – but also the continuous weak fiscal performance which means a real obstacle to many other necessary structural improvements as well.

One can question whether these objectives can be met by a real hardliner like Bolsonaro without jeopardizing achieved democracy.

In the early days of my professional career in the early 1980s, I was always told that Brazil is the country of the future. Somewhat later when I started visiting Brazil regularly, I heard the same story – and still today but with a more skeptical sound.

Brazil is another example from the international area where heavy protests against insufficient political and economic results these days more strongly come from the right than from the left.

As usual, I am reluctant to spontaneous comments when political changes happen in Latin America. Too often disappointments followed later on.

Hubert Fromlet
Affiliate Professor at the School of Business and Economics, Linnaeus University
Editorial board


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