Forex Blog: Currency Trading News & Analysis.

May 2nd 2005

Central Banks and Capital Losses

Central Banks are essentially banking monopolies, and often earn great sums of money. America’s Federal Reserve Bank earned $23 Billion last year, for example. But what happens when central banks lose money? This issue is becoming increasingly pertinent in the context of Asia’s Central Banks, which continue to build up the foreign exchange reserves in the face of looming capital losses.

Many Asian economies have pursued economic policies of export promotion, the success of which is conditional on a cheap, domestic currency. Some nations have explicitly fixed their currencies to the USD; other have intervened on a regular basis to prevent their currencies from rising too much. The means to achieving the end of a cheaper currency is to purchase USD, usually in bulk. As a result, Asian Central Banks have collectively amassed $2 trillion worth of USD. If the USD continues to decline in value, Asian Central Banks will sustain massive capital losses. When measured as a percentage of GDP, these losses could reach double digits. For this reason, Asian central banks are sitting tight on their reserves. The Economist reports:

There is now no way that Asia’s central banks can sell their reserves, reinvesting the proceeds in higher-yielding assets, without triggering the very capital losses they would hope to avoid. If they try to rouse these dormant assets, they will empty them of value. If they wish to preserve their worth, they must let them lie.

Read More: Should Central Banks worry about capital losses?

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Posted by Adam Kritzer | in Central Banks | No Comments »

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