A parsimonious model of trade, finance and endogenous currency choices in international reserves

Dong Lu and Yuhao Mu

Economics Letters, 2023, vol. 225, issue C

Abstract: We provide a parsimonious model with two international currencies (dollar and quasi-dollar) to examine the endogenous linkage among trade invoicing, bank funding and optimal currency choices in central banks’ international reserves. We find that (1) when the exchange rate volatility is high, an increase in dollar debt share would lead central banks to hold a larger dollar share in international reserves; (2) when exchange rates of dollar and quasi-dollar move in the same direction, they tend to cut dollar share in reserve holdings. We test these predictions using a newly-available foreign exchange reserve currency composition dataset and find considerable support.

Keywords: Currency choices; International reserves; Foreign debt; Exchange rate volatility; Exchange rate comovement (search for similar items in EconPapers)
JEL-codes: E58 F31 G15 (search for similar items in EconPapers)
Date: 2023
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:ecolet:v:225:y:2023:i:c:s0165176523000885

DOI: 10.1016/j.econlet.2023.111063

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