Saturday, February 19, 2011

Everything You Wanted To Know About Central Bank Reserve Requirements…And Then Some

A new IMF working paper discusses reserve requirements and the role they play in liquidity management and monetary policy (abstract):

Central Bank Balances and Reserve Requirements
Simon Gray

Most central banks oblige depository institutions to hold minimum reserves against their liabilities, predominantly in the form of balances at the central bank. The role of these reserve requirements has evolved significantly over time. The overlay of changing purposes and practices has the result that it is not always fully clear what the current purpose of reserve requirements is, and this necessarily complicates thinking about how a reserve regime should be structured. This paper describes three main purposes for reserve requirements – prudential, monetary control and liquidity management – and suggests best practice for the structure of a reserves regime. Finally, the paper illustrates current practices using a 2010 IMF survey of 121 central banks.

I’ve talked before about Bank Negara’s Statutory Reserve Requirement (SRR) and the uses it could be put to, currently primarily as a signalling mechanism as well as a “cheaper” way to manage liquidity. But this paper really sets out the theory, the issues, the technical details, and a survey of current practice around the globe in a relatively non-technical fashion.

Too often, there’s a disconnect between academic theory and real world practice. Papers like this do a great deal to bridge the gap, with its wealth of detail on the micro-workings and interactions between central banks and the financial system.

Required reading, I’d say, for students of monetary economics.

Technical Notes:

Simon Gray, "Central Bank Balances and Reserve Requirements", IMF Working Paper No. 11/36, February 2011

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