November 11th, 2009 | Author: admin
Also, is it possible for an increase in foreign exchange reserves elevate the inflation?
An increase in foreign exchange reserves helps an economy by increasing the "cushion" it has against excessive variations of the exchange rate. This is particularly important for fixed exchange regimes where it is vital for an economy to keep its exchange rate constant, so the greater the reserves the easier it it for this given economy to defend its parity because it can conduct market operations (selling or buying foreign exchange) to maintain their parity.
It can also be important for floating regimes when the variations in the exchange rate are so great that they can disrupt the international trade of this economy and, obviously, destabilize the economy. Once again, the greater the reserves, the better off the central bank is to intervene the foreign exchange market.
For your second question, more reserves don’t raise inflation per se.
An increase in foreign exchange reserves helps an economy by increasing the "cushion" it has against excessive variations of the exchange rate. This is particularly important for fixed exchange regimes where it is vital for an economy to keep its exchange rate constant, so the greater the reserves the easier it it for this given economy to defend its parity because it can conduct market operations (selling or buying foreign exchange) to maintain their parity.
It can also be important for floating regimes when the variations in the exchange rate are so great that they can disrupt the international trade of this economy and, obviously, destabilize the economy. Once again, the greater the reserves, the better off the central bank is to intervene the foreign exchange market.
For your second question, more reserves don’t raise inflation per se.
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