A man walks in front of the head office of the central bank of Russia in Moscow. The Russian central bank has steadily bought growth-linked Australian and Canadian dollars, which had a combined stake of 3.9% of global reserves at the end of the second quarter.
Reuters
London
Central bank foreign exchange reserves may have fallen last quarter for the first time since the global financial crisis, halting a decade-long shift out of dollars and threatening a key support for the euro and Australian and Canadian dollars.
Ever since the dollar’s rise accelerated in July on expectations that the Federal Reserve could start raising interest rates next year, forex reserves held by central banks have started to fall from record highs.
And with Russia in crisis, fears have grown that central banks from South Korea to Turkey and Indonesia would have to draw more from their reserves to stem a flight of capital and prevent sharp local currency losses feeding inflation and hampering foreign-currency debt servicing.
Analysts at RBC Capital Markets estimate global reserves are 2% lower in the third quarter compared with the previous three months. The International Monetary Fund is set to issue reserves data at the end of December.
That would translate into a $240bn drop in global reserves, estimated at $12tn, and the first fall since late 2008/early 2009. Two-thirds of global reserves are held by emerging market economies, with China holding the bulk.
“Central banks typically have fixed ratios that they allocate to dollars, euros and other currencies in their reserves,” said Neil Mellor, strategist at Bank of New York Mellon.
“So if overall reserves are shrinking, you have to sell euros and other currencies so that the ratios are maintained. The decade-long diversification process which has helped the euro will reverse and the euro will be the hardest hit.”
The US dollar’s share of global foreign currency reserves was around 61% and the euro’s 24% at the end of the second quarter, based on IMF data.
That compared with 61.8% and 23.8% respectively in the same period of 2013. In 1999, when the euro was introduced, the single currency’s share was 17.8%, but that has steadily risen, mostly at the expense of the dollar. During that time, the euro has gained almost 20% against the greenback.
“In the past, passive diversification by sovereigns has compressed volatility, boosted the euro and high-yield G10 currencies,” said Geoffrey Yu, currency strategist at UBS.
“With higher US rates, emerging market central banks will probably be busier defending their own currencies and drawing down reserves. As such, outflows from China and general reserve declines across emerging markets will likely become the norm.”
Central banks, like that of China, South Korea and Taiwan are active and influential players in the $5.5tn a day currency market. But they tend to conduct their business as discreetly as possible so as to minimise market volatility.
They rarely change the mix of reserves they hold, but with the most liquid currencies like the US dollar and yen offering meagre returns given official rates near zero, a few have diversified into higher-yielding currencies.
The Russian central bank, for example, has steadily bought growth-linked Australian and Canadian dollars, which had a combined stake of 3.9% of global reserves at the end of the second quarter. But with Russian reserves tumbling to a five-year low, that demand will fall.
“Reserve accumulation in recent years was mostly by oil exporters in the Gulf, Russia, Nigeria and obviously they have been losing reserves and they will continue to lose reserves,” said David Hauner, head of fixed income and economics for EEMEA at Bank of America/Merrill Lynch.
Chinese FX reserves fell to $3.888tn at the end of the third quarter, a decline of $105.2bn in the quarter.
“The overall trend remains one of slowing global reserve growth,” said Elsa Lignos, senior currency analyst at RBC Capital. “The ‘recycling’ into non-dollar currencies will no longer be a source of support for the rest of G10.”
