A Study On Structure Optimization Of China's Foreign Exchange Reserves

After the 1997 Asian financial crisis, China's accumulation of foreign exchange reserves began to increase, and since 2001 it has been into more rapid growth period with the average annual growth rate of 37%.Relative to the low return, the rapid expansion of the scale of China's foreign exchange reserves has made the opportunity cost of holding reserves too high, while the existing structural imbalance in foreign exchange reserves lead to the mismatching between investment returns and the cost. At first, this dissertation studies the currency composition of China's foreign exchange reserves and assets structure under a single currency, and then the structural problems of China's foreign exchange reserves. Finally we expect to get some useful suggestions from the basic conclusions.Seen from the currency composition of global foreign exchange reserves, dollar, euro, yen and sterling are the most important reserve currencies selected by the other countries and regions in the world. Although the proportion of euro in foreign exchange reserves has increased, the dollar is still the dominant position of China's foreign exchange reserve investments while 65%-70% of foreign exchange reserves assets are dollar. This dissertation will adopt the MMVD model to study the reasonable weights of these four major reserve currencies in foreign exchange reserves. In the empirical study, we will not only think about the effects of yields and risk in reserve currency selection Process, but also absorb the factor of trade structure in Heller-Knight model and factors of external debt and exchange rate volatility in Dooley model. After considering various factors the dissertation concluded that proportion of dollar assets in foreign currency may be reduced, while the euro, yen and sterling assets ratio may be appropriately increased gradually to achieve the goal of diversify in reserves currency.Foreign exchange reserve structure includes another important element that is the asset allocation under the single currency. Because of the absolute position of U.S. dollar in foreign exchange reserves, efficiency in managing dollar assets would directly affect the overall effectiveness of foreign exchange reserve management.Under the VaR constrained portfolio selection theory framework, the dissertation adopts time series of dollars short-term debt, medium debt, long-term government bonds, mortgage bonds, stock returns and the AAA-rated corporate bond from January 2003 to October 2009 to analysis the reasonableness of asset allocation structure. Empirical study concluded that our country could increase investment in AAA-rated corporate bonds to increase the portfolio returns and diversify risk, with the premise of ensuring the liquidity and safety. In addition, the equity investment is another adjustment content of China's dollar reserve assets. Seen from the long term, equity investment gains not only yields, but also the true sense of equity investment is to help China adjust Economic growth model. After comparing China, Japan, Korea, India and Hong Kong dollar assets allocation ratio, we will find that China's share of U.S. dollar assets in bonds held high, while the proportion of equity investments held low, the proportion of government bonds and agency debt held high, while the proportion of corporate bond held too low, which is a typical low-risk, low-income and conservative holding structure. The essence of this type of holding structure is the structure of maintaining trade, and the goal to hold a large number of U.S. Treasuries and agency bonds is to maintain trade relations with the United States. While the proportions of equity investment and corporate bonds are relatively higher in Japan and Hong Kong and long-term debt proportion is relatively lower, these reflect the financial integration-type structure which has stronger integration force with United States capital market, and also has high efficiency corporate governance and institutional arrangements. As China's structure of maintaining trade not only links with long-term development model and strategy, but also constrained by the Sino-US economic and trade relations, So it is difficult to adjust structure from trade maintained structure to the structure of financial integration.If in short-term large scale adjustment of dollar ratio in foreign exchange reserves, the direct consequences are dollar depreciation, the declining purchasing power and the fluctuation of U.S. economy, which will have a great impact to China's export industries and bring significant social costs. Empirical studies indicate that in the current structure of China's trade with the U.S., export industries with low per capita share are shocked greatly by fluctuations from U.S. economic growth and real exchange rate. Except for export trade industries shocked, the shrinking export industries will cause domestic employment adversely, because the existing export structure decide labor-intensive nature of the products, and shrinking export industries will inevitably lead to reduced employment opportunities.In the short term, to realize transformation of economy structure and upgrade trade structure is difficult. Labor-intensive export industries create many jobs for the labor force transferred from rural areas in the process of urbanization, and also the export trade on domestic economic growth is enormous role. Therefore, the large dollar reserves adjustment is unrealistic for China and the U.S. because of enormous social costs.Composition of China's reserves currencies focus on U.S. dollar, but in short-term it is unlikely to adjust dollar-denominated assets in large-scale. Except for huge social costs, under the current international monetary system, U.S. dollar's core position does not change, as the strongest competitors-euro in global foreign exchange reserves, although the ratio has improved, the gap is still relatively large with dollar. Although Euro-zone countries' economic scale could compete with United States, the dollar's absolute dominance can not be achieved by euro at present:the U.S. dollar in international economic activity is still the most widely used currency. Almost all goods are denominated in dollars and transactions in the various international trades, even if the U.S. is not a source of imports of goods or services or the export destinations, most international transactions are still involved in U.S. dollars. The United States has the world's largest, best liquidity and most transparent financial markets, and part of the countries which hold the large foreign exchange reserves and low exchange rate depend on U.S.as their main destination. Many countries have a greater proportion of external debt denominated in U.S. dollar, so the corresponding demand for foreign exchange reserves held in dollar assets rises. All in all, in the short term China will continue to invest in dollar, and it is more suitable to reallocate assets internal. Finally, from the point of the policy recommendations, China's U.S. dollar reserves can be gradually reduced in China and the share of euro could appropriately increase currency composition management should be transferred to wealth function. However, this adjustment process is gradual, not overnight. It is necessary to pay attention to the quantitative management met the goal of liquidity, including volume and flow, to maintain the stability of foreign economic relations, to strengthen foreign exchange reserves management objectives, and to reform the existing reserve management and decision-making mechanism. To manage foreign reserve more actively could ensure that our country optimizes resource allocation, and establishes long-term reserve resources.