Study On The Impacts Of Precautionary Motive On China’s Foreign Exchange Reserve Management

Since 2000,China has experienced three different stages of foreign exchange reserves accumulation,which are high-speed growth stage,slower growth stage,and sharp decline and then rebound stage.At different stages,the focus of research on foreign exchange reserves management has also changed according,the precautionary motive of foreign exchange reserves accumulation has gradually gained attention.Since the exchange reform in August ll,2015,China faced the grim situation of devaluation of local currency and capital flight,abundant foreign exchange reserves have indeed played a role in stabilizing the RMB exchange rate and preventing a full-scale currency crisis.In this context,the focus of research on foreign exchange reserves management has shifted to what kind of foreign exchange reserve management policies the central bank should adopt to achieve the goal of maintaining economic and financial stability.This paper studied the impact of precautionary motive on China’s foreign exchange reserves management with the purpose to propose empirical evidence and policy recommendations on how to effectively manage foreign exchange reserve assets to prevent risks in the process of accelerating economic and financial liberalization.The Scale currency structure of foreign exchange reserve are important contents of foreign exchange reserve management.First,we constructed a Cost-Benefit Model of holding foreign exchange reserve by referring to the Beck&Weber(2011).Subsequently,studied the influence of precautionary motive on the scale of foreign exchange reserves and the management of currency structure empirically.On the one hand,we adopted a Threshold-Regression Model to study the impact of precautionary motive on reserve scale,and identify the motives of holding foreign exchange reserves in China since 2000 dynamically.On the other hand,this paper estimates the currency structure of China’s foreign exchange reserve by combining the US Department of the Treasury and International Monetary Fund,since China did not public the data on currency structure of foreign exchange reserves.Then identifies its determinants by virtue of Generalized Moment Estimation Method(GMM),with the purpose of revealing the reasons for the dominance of the US dollar in China’s foreign exchange reserve,and study the precautionary motive for foreign exchange currency.This paper has reached the following conclusions:Firstly,China’s foreign exchange reserve accumulation behavior is driven by trading motive,mercantilist motive and precautionary motive.At different stages,motives for holding foreign exchange have changed dynamically.With the economic integration and the gradual opening of financial markets since the third quarter of 2004,the influence of precautionary motive on the scale of China’s foreign exchange reserves has gradually increased,and the impact of transactional motive and mercantilist motive has weakened.Secondly,precautionary motive not only affect the scale of foreign exchange reserves,but also affect currency structure of foreign exchange reserves.When the risk of external shocks increases,on the one hand the monetary authorities increase the holding of foreign exchange reserves to reduce the probability of crisis;and on the other hand,increase the proportion of security assets in foreign exchange reserves and transfer them during times of crisis to avoid falling consumption caused by falling output.Finally,there is a correlation between the scale of foreign exchange reserves and the management of the currency structure.High scale of foreign exchange reserves can reduce the probability of a crisis to and reduce the demand for security assets.The above conclusions indicate that the precautionary motive is the main motive for the accumulation of China’s foreign exchange reserves.The management of foreign exchange reserves should focus on its function of maintaining exchange rate stability,preventing capital account fluctuations,and maintaining financial security.At the same time,the management of the scale of foreign exchange reserves and the management of currency structure should be considered in an integrated manner,reducing the cost of holding holdings through the rational combination of reserve scale and currency structure.