Reserve Accumulation, Growth and Financial Crises

Gianluca Benigno and Luca Fornaro

CEP Discussion Papers from Centre for Economic Performance, LSE

Abstract: We present a model that reproduces two salient facts characterizing the international monetary system: i) Faster growing countries are associated with lower net capital inflows and ii) Countries that grow faster accumulate more international reserves and receive more net private inflows. We study a two-sector, tradable and non-tradable, small open economy. There is a growth externality in the tradable sector and agents have imperfect access to international financial markets. By accumulating foreign reserves, the government induces a real exchange rate depreciation and a reallocation of production towards the tradable sector that boosts growth. Financial frictions generate imperfect substitutability between private and public debt flows so that private agents do not perfectly offset the government policy. The possibility of using reserves to provide liquidity during crises amplifies the positive impact of reserve accumulation on growth. We use the model to compare the laissez-faire equilibrium and the optimal reserve policy in an economy that is opening to international capital flows. We find that the optimal reserve management entails a fast rate of reserve accumulation, as well as higher growth and larger current account surpluses compared to the economy with no policy intervention. We also find that the welfare gains of reserve policy are large, in the order of 1 percent of permanent consumption equivalent.

Keywords: foreign reserve accumulation; gross capital flows; growth; financial crises (search for similar items in EconPapers)
JEL-codes: F31 F32 F41 F43 (search for similar items in EconPapers)
Date: 2012-08
New Economics Papers: this item is included in nep-dge, nep-fdg, nep-mon and nep-opm
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (91)

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Related works:
Journal Article: Reserve accumulation, growth and financial crises (2022)
Working Paper: Reserve Accumulation, Growth and Financial Crises (2021)
Working Paper: Reserve Accumulation, Growth and Financial Crises (2012)
Working Paper: Reserve accumulation, growth and financial crises (2012)
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Persistent link: https://EconPapers.repec.org/RePEc:cep:cepdps:dp1161

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