Vc Forex

Forex: The Measure of International Reserves

Since intervention in the exchange markets and the determination of the size of banking reserves are functions of the government, only the items that either belong to them or can be utilized by it in case of need are counted as parts of its reserves, and as measures of its surpluses and deficits.

Previously, the United States employed what is known as the 'gross liquidity measure' to determine its surpluses and deficits. There was, however, criticism that the liquidity measure gave an exaggerated picture of deficits and was also asymmetric, in that it did not include private short-term assets as offsets to private short-term liabilities, and so a second and additional measure, the official reserve transactions, was adopted in 1967.

In 1971, certain changes were made in the format of the U.S balance of payments and in the definition of liquidity balance, and a new, but unofficial measure of surpluses and deficits was added.

On the liquidity basis, in general terms, surpluses and deficits are measured by the changes in U.S. official reserve assets and in U.S. liquid foreign assets and liabilities, in SDRs, in errors and omissions.

The official reserve transactions basis, likewise in general terms, measures surpluses and deficits by the changes in U.S. official reserves assets, liquid, and certain non-liquid liabilities to foreign official agencies.

The difference between the two measures can be substantial. On the liquidity basis there was a deficit of $3.9 billion, whereas on the official reserve, transaction basis there was a deficit of $9.8 billion.

Of the two official measures, the liquidity one seems to have greater acceptance, and is generally believed to be more realistic, but neither definition is entirely satisfactory.

Entirely no adequate measure of the U.S. balance of payments surpluses and deficits has as yet been devised, if, indeed, it is possible to devise a measure that will meet all requirements. A similar observation applies to the surplus and deficit measures employed by other nations.

The notion that the liquidity balance measures changes in the danger of being able to meet a nation's external obligations can be criticized. Perhaps one of the greatest threats in times of currency crisis or, payments crisis comes from assets whose buildup is totally missed by the balance of payments account: the holding of liquid claims on a certain country by its own residents.

However, the motivation here is to search for a measure of the task facing officials wanting to defend the dollar and the United States against a financial attack. It is also subject to criticisms, since it cannot really measure the degree a crisis' threat of confidence in either the country, or the currency itself.