Contingent Reserves Management: An Applied Framework / Ricardo J. Caballero, Stavros Panageas.

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Caballero, Ricardo J

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TextSeries: Working Paper Series (National Bureau of Economic Research) ; no. w10786.Publication details: Cambridge, Mass. National Bureau of Economic Research 2004.Description: 1 online resource: illustrations (black and white)Subject(s):

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Abstract: One of the most serious problems that a central bank in an emerging market economy can face, is the sudden reversal of capital inflows. Hoarding international reserves can be used to smooth the impact of such reversals, but these reserves are seldom sufficient and always expensive to hold. In this paper we argue that adding richer hedging instruments to the portfolios held by central banks can significantly improve the efficiency of the anti-sudden stop mechanism. We illustrate this point with a simple quantitative hedging model, where optimally used options and futures on the S&P100's implied volatility index (VIX), increases the expected reserves available during sudden stops by as much as 40 percent.

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Previous	nber w10783 Working the System: Firm Learning and the Antidumping Process /	nber w10784 Household Expenditure and the Income Tax Rebates of 2001 /	nber w10785 The Comovement of Returns and Investment Within the Multinational Firm /	nber w10786 Contingent Reserves Management: An Applied Framework /	nber w10787 What Does the Public Know about Economic Policy, and How Does It Know It? /	nber w10788 Fiscal Discipline and the Cost of Public Debt Service: Some Estimates for OECD Countries /	nber w10789 Subjective Mortality Risk and Bequests /	Next

September 2004.

One of the most serious problems that a central bank in an emerging market economy can face, is the sudden reversal of capital inflows. Hoarding international reserves can be used to smooth the impact of such reversals, but these reserves are seldom sufficient and always expensive to hold. In this paper we argue that adding richer hedging instruments to the portfolios held by central banks can significantly improve the efficiency of the anti-sudden stop mechanism. We illustrate this point with a simple quantitative hedging model, where optimally used options and futures on the S&P100's implied volatility index (VIX), increases the expected reserves available during sudden stops by as much as 40 percent.