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Today given the strengthening of USD, many Central banks are trying to lift their domestic currencies by selling their USD holding.

My question is how a central bank earns and save USD in their kitty? One possibilities I can see is by selling their Gold holdings. Is this one only way they can earn USD?

Also, where do they keep these holdings?

Any insight will be very helful.

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    $\begingroup$ I think this is a good question in today's climate. I vote to leave it open. $\endgroup$ Oct 16, 2022 at 8:10
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    $\begingroup$ In addition to selling gold holdings, a central bank (CB) can accumulate other currencies through various means such as by buying them on the open market with its own currency, making swap agreements with other CBs, requiring certain exporters to sell a certain portion of their export revenues to the CB, and requiring banks to place some of the deposits in other currencies to deposit in the CB. There is quite a bit of information accessible through the Internet on how foreign currency reserves are accumulated and managed by CBs. $\endgroup$
    – Alper
    Oct 16, 2022 at 8:56
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    $\begingroup$ I think economics.stackexchange.com might be a better venue $\endgroup$ Oct 16, 2022 at 17:58

1 Answer 1

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In a market economy, you can think of the FX operations of the Central Bank as a process of ebb and flow, or as a buffer function. During favorable times when the local currency is healthy and in good demand worldwide the CB sells local currency to buy USD (or other reserve assets) for its balance sheet; vice versa during periods of weakness they sell USD to buy the local currency. All at market prices.

In an economy with a non-convertible curency (controlled foreign exchange), the local exporters are required by law to sell all (or a portion) of the foreign exchange they earn from exports at a specified rate to the CB (or a sepcialized agency such as the State Administration of Foreign Exchange). So "all of your FX belong to us", and is managed by the CB as it sees fit (keeping it invested, selling it to importers for their use or using it for FX intervention).

Another possibility as you mention is to sell gold.

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  • $\begingroup$ So is that you saying, Central banks also doing market making activities? $\endgroup$
    – Brian19931
    Oct 17, 2022 at 18:11
  • $\begingroup$ Yes, that is not a bad way to think about it: the CB as a market-maker in its currency but with a public policy orientation, not just a profit orientation. $\endgroup$
    – nbbo2
    Oct 17, 2022 at 19:28

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