how foreign exchange reserves work
foreign exchange reserves can include banknotes deposits bonds treasury bills and other government securities 1 these assets serve many purposes but are most significantly held to ensure that a central government agency has backup funds if their national currency rapidly devalues or becomes entirely insolvent 2it is a common practice in countries around the world for a central bank to hold a significant amount of reserves in its foreign exchange most of these reserves are held in the u s dollar since it is the most traded currency in the world it is not uncommon for the foreign exchange reserves to be made up of the british pound gbp the euro eur the chinese yuan cny or the japanese yen jpy as well 3economists theorize that it is better to hold the foreign exchange reserves in a currency that is not directly connected to the country s own currency in order to provide a barrier should there be a market shock 3 however this practice has become more difficult as currencies have become increasingly intertwined as global trading has become easier foreign exchange reserves are not only used to back liabilities but also influence monetary policy example of foreign exchange reservesthe world s largest current foreign exchange reserve holder is china a country holding more than 3 trillion of its assets in a foreign currency 4 most of their reserves are held in the u s dollar one of the reasons for this is that it makes international trade easier to execute since most of the trading takes place using the u s dollar 5saudi arabia also holds considerable foreign exchange reserves as the country relies mainly on the export of its vast oil reserves if oil prices begin to rapidly drop the country s economy could suffer it keeps large amounts of foreign funds in reserves to act as a cushion should this happen even if it s only a temporary fix 6u s foreign exchange reserves totaled 247 billion as of march 25 2022 compared to china s over 3 trillion 47russia s foreign exchange reserves are held mostly in u s dollars much like the rest of the world but the country also keeps some of its reserves in gold since gold is a commodity with an underlying value the risk in relying on gold in the event of a russian economic decline is that the value of gold will not be significant enough to support the country s needs as of february 2022 russia s foreign exchange reserves totaled some 630 billion 8 however sanctions imposed by the european union eu the u s and other nations in response to russia s invasion of ukraine in february 2022 rendered most of those reserves inaccessible to the central bank 9another danger of using gold as a reserve is that the asset is only worth what someone else is willing to pay for it during an economic crash that would put the power of determining the value of the gold reserve and therefore russia s financial fallback into the hands of the entity willing to purchase it 