2.1. The definition of Official foreign exchange
reserves
According to the international monetary fund, the Official
foreign exchange reserves«are those external assets that are readily
available to and controlled by monetary authorities for
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direct financing of payments imbalances, for indirectly
regulating the magnitudes of such imbalances through intervention in exchange
markets to affect the currency exchange rate, and/or for other purposes»
[1].
It is worth noting that the official foreign exchange reserves
include foreign currency assets and gold, this later must be held by the
monetary authorities as monetary gold to be recognized as part of official
reserves.
Furthermore, these reserves are held to exercise the basic
function as shocks absorber in order to support and maintain confidence in the
monetary and exchange rate policies, including the capacity to intervene in
support of the national currency [2]
Moreover, Reserve management policy can defined as«the
process by which public sector assets are managed in a manner that provides for
the ready availability of funds, the prudent management of risks, and the
generation of reasonable return on the funds invested» [1].
Usually, the central banks laws defined the investment policy
of these reserves, and permits the following investment categories:
-deposits with other central banks and the Bank for International
Settlements; -deposits with foreign commercial banks;
- Investments in bonds/treasury bills, which represent debt
obligations of highly rated sovereigns and supranational entities;
- Dealing in certain types of derivatives. ; and
- Other instruments / institutions as approved by the Board of
the central Bank
In the majority of countries, the preservation of the long-
term value of the reserves in terms of purchasing power and the need to
minimize risk and volatility in returns, are the main principles governing the
foreign reserves management.
2.2. The most important risks associated with managing
foreign exchange reserves
The word Risk means the possibility of
financial or other losses arising from an entity's financial exposures and/or
the failure of its internal control systems. So, There should be a framework
that identifies and assesses the risks of reserve management operations and
that allows the management of risks within acceptable parameters and levels.
The risk management functions are aimed at ensuring
development of sound governance structure in line with the best international
practices, improved accountability, a culture of risk awareness across all
operations and efficient allocation of resources for development of in-house
skills and expertise.Typically, official foreign exchange reserves are faced to
a range of risk, including [3] :
a. Credit risk
Credit risk is defined as the potential that a borrower or
counterparty will fail to meet its obligation (loans or other financial assets)
in accordance with agreed terms. the investment of
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foreign exchange reserves in bonds/treasury bills or Placement
of deposit with Bank for International Settlements is also considered credit
risk-free.
Credit risk has been in focus since the onset of the credit
crisis in the US financial markets and its contagion effect on other economies
leading to global financial crisis during the second half of 2008 and during
2009.
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