THE DOLLAR´S DECLINE IN GLOBAL RESERVES: FACT OR FICTION? / THE WALL STREET JOURNAL

The Dollar’s Decline in Global Reserves: Fact or Fiction?

Greenback’s share of foreign-exchange reserves has slipped, but there are reasons to believe it will bounce back

By Mike Bird

The real dollar exposure of major central banks is likely higher than it looks. / PHOTO: GARY CAMERON/REUTERS

In the third quarter of 2020, the dollar’s share of global foreign-exchange reserves slipped to its lowest level in almost a quarter of a century. ´

But don’t let the figures fool you: The greenback is as central to the global financial system as it has ever been.

International Monetary Fund data shows the dollar’s share of reported reserves fell to 60.5% in September. 

The drop has been magnified in nominal terms due to the currency’s depreciation over the past year. 

But even accounting for that, the real dollar exposure of major central banks is likely higher than it looks.

What’s more, that exposure likely rose again in the fourth quarter.

After adjusting for currency-market movements, Goldman Sachs notes that dollar holdings actually rose more than euro, Japanese yen, Chinese yuan or British pound holdings in the third quarter.

At 5.9% of global reserves, the share of the yen is high compared with recent decades. But that increase actually disguises dollar demand. 

Many large yen holders are trying to acquire more dollars through currency swaps. 

That popular trade has led to a surge in foreign purchases of short-term Japanese government bonds.

Most central banks don’t break down their holdings in depth, but the unusually transparent Reserve Bank of Australia does. 

It held around $6.8 billion in U.S. dollar-denominated securities as of June, an amount that almost triples when its derivatives exposure is taken into account. 

Its roughly $3.7 billion in yen reserves is cut in half after the same calculus.

Asian central banks were also vacuuming up foreign exchange in the fourth quarter of 2020. 

China’s and South Korea’s reserves rose at the fastest rate in seven and 10 years, respectively. 

Taiwan’s rose at the fastest rate on record in November—and then again in December.

We don’t know exactly how much of that is dollar-denominated, but the greenback will probably be well represented. 

The increase in purchases is likely meant to counteract a rally in their currencies, primarily against the dollar. 

Research by Exante Data shows central banks were already purchasing more dollars than other currencies as the year came to a close.

Narratives suggesting the dollar declined in importance last year after the Federal Reserve’s actions in February and March played the central role in preventing global financial meltdown are suspect. 

The dollar’s share in reserves is likely to recover to reflect that reality.