Determinants of foreign exchange reserves in Brazil: An empirical investigation

• Published date: 01 May 2021
• Author: Nihar Ranjan Jena,Narayan Sethi
• Date: 01 May 2021
• DOI: http://doi.org/10.1002/pa.2216

ACADEMIC PAPER

Determinants of foreign exchange reserves in Brazil: An

empirical investigation

Nihar Ranjan Jena

1

| Narayan Sethi

2

1

Department of Economics, KET’s V.G. Vaze

College of Arts, Science and Commerce,

Recognized Research Center of University of

Mumbai, University of Mumbai, Mumbai,

Maharastra, India

2

Department of Humanities and Social

Sciences, National Institute of Technology

Rourkela, Rourkela, Odisha, India

Correspondence

Nihar Ranjan Jena, Department of Economics,

KET’s V.G. Vaze College of Arts, Science and

Commerce Recognized Research Center of

University of Mumbai, University of Mumbai,

Mumbai, Maharastra-400081, India.

Email: nihar1915@gmail.com

This paper examines the determinants of foreign exchange reserves of Brazil for the

period 1960–2018. We use empirically robust auto-regressive distributed lag (ARDL)

bounds testing methodology to trace the determinants of foreign exchange reserves

of Brazil. We incorporate other relevant variables in the model such as current

account balance to GDP ratio, debt to GDP ratio, domestic credit to the private sec-

tor as a percentage of GDP, exchange rate, inflation, per capita GDP and real interest

rate with foreign exchange reserves in impacting its size in Brazil. We find that long-

run relationship exists between foreign exchange reserves, current account balance

to GDP ratio, debt to GDP ratio, domestic credit to the private sector as a percentage

of GDP, exchange rate, inflation, per capita GDP and real interest rate. However, we

find that variables under study also have unidirectional short-run causality. Hence,

the policymakers to give special attention to the fact maintain a foreign exchange

reserve which is optimum keeping in mind their developmental needs.

JEL CLASSIFICATION

C32; F35; F43

1|INTRODUCTION

Foreign exchange reserves are assets that are held by a nation's cen-

tral bank or monetary authority. It is generally held in reserve curren-

cies usually the US Dollar, the Euro, Japanese Yen, and Pound

Sterling. It is used by the domestic country to meet international obli-

gations with the rest of the world. Foreign exchange reserves of a

country include foreign banknotes, foreign treasury bills, foreign bank

deposits, and long and short-term foreign government securities, gold

reserves, IMF reserve positions, and special drawing rights issued by

the IMF. The Purpose of keeping foreign exchange reserves may to

keep the value of their currencies at an acceptable rate or band and to

maintain liquidity in case of an economic crisis and to ensure that a

country meets its foreign obligations and liabilities. According to a

report by Goldman Sachs, stronger foreign currency reserves will

allow developing market central banks to “buffer their currencies

against sharp declines by supplying dollars to the market”at times of

volatility. Therefore the importance of having an adequate amount of

foreign exchange reserves keeping in mind an individual country's

development needs is of paramount importance. Equally important is

the management of foreign exchange reserves. Foreign exchange

reserve management is a process that ensures that acceptable official

public sector foreign assets are readily available to and controlled by

the authorities for meeting a defined range of objectives for a country

or union. Typically, official foreign exchange reserves are held in sup-

port of a range of objectives including to support and maintain confi-

dence in the policies for monetary and exchange rate management

including the capacity to intervene in support of the national or union

currency; limit external vulnerability by maintaining foreign currency

liquidity to absorb shocks during times of crisis or when access to bor-

rowing is curtailed and in doing so; provide a level of confidence to

markets that a country can meet its external obligations; demonstrate

the backing of domestic currency by external assets; assist the gov-

ernment in meeting its foreign exchange needs and external debt obli-

gations; and maintain a reserve for national disasters or emergencies

(IMF, 2005). Comprehensive reserve management practices are

important because they can increase a country's or regions overall

resilience to shocks. The importance of sound practices has also been

highlighted by experiences where weak or risky reserve management

practices have restricted the capability of the authorities to respond

Received: 11 May 2020 Revised: 25 May 2020 Accepted: 31 May 2020

DOI: 10.1002/pa.2216

J Public Affairs. 2021;21:e2216. wileyonlinelibrary.com/journal/pa © 2020 John Wiley & Sons, Ltd 1of12

https://doi.org/10.1002/pa.2216