China's Foreign Exchange Reserves Of An Appropriate Scale

Foreign exchange reserves are major component of international reserves.It is essential for an open economy to hold a certain level of foreign exchange reserves.But holding excessive level of foreign exchange reserves and it increasing rapidly may often have a negative impact on the economy stability and development.When lack of foreign exchange reserves,an economy will be seriously restricted its capacity to pay and its international reputation will be impacted,so that may lead to currency instability and capital flight.A more serious problem is also likely to trigger domestic economic crisis.While holding the excessive foreign exchange reserves,the domestic currency will face the dual pressure of appreciated to the external and devaluated to the internal, so the exchange rate will fluctuate.And excessive foreign reserves are idle resources and have the opportunity cost.Therefore,the appropriate size of the reserves has been the core of the theory of foreign exchange reserves.So far,economists have not reached a consensus on the optimal or the minimum or the maximum level of an economy's foreign exchange reserves,and the results of empirical test are also differently.Some foreign reserves demand model could provide some practical standards,so we generally can identify an appropriate level of foreign exchange reserves in specific circumstances of a country.For developing countries,foreign exchange reserves are accumulated primarily to deal with the risks of international capital flows.This view partly explains the facts of the massive accumulation of foreign exchange reserves in Asian countries after the economic crisis in Southeast Asia.Developing countries accumulated foreign exchange reserves in good times which could be consumed in bad times in order to avoid the impact of international capital flows,so that can smooth the domestic absorption. Construction of this model comes from the basic idea of cost-benefit analysis that is the proceeds of holding appropriate foreign reserves should be able to offset the costs.In the model,the greatest advantage of foreign exchange reserves can be used to smooth the domestic absorption fluctuations in crisis.The result of the model is a closed-form solution of some equations,and finally includes an expression of appropriate reserves relating with some model parameters.Using the result of the model and some relevant data of China,it is estimated that the various model's parameters and a appropriate level of foreign exchange reserve in China.In this paper,China's foreign exchange reserves are moderate in most of years, but in recent years the relative excess foreign exchange reserves come forth and increase very rapidly.The great large size and fast growth of China's foreign exchange reserves in recent years enhance the complexity of China's monetary policy.We have some recommendations on China's foreign exchange reserve management policy.