Foreign Exchange Reserves Reach New High; Risk Management Required
China Times editorial (Taipei, Taiwan, ROC)
July 18, 2014
Summary: Given our huge foreign exchange reserves, we should be thinking on a grander scale. We should be thinking about how to make the best use of our foreign exchange reserves, This would increase the public welfare, and contribute to national security and stability.
Full Text Below:
As of late June, Taiwan's foreign exchange reserves amounted to US $ 423.454 billion, Foreign bonds and shares amounted to US $ 301.6 billion. Both reached new highs. Overal Asian foreign exchange reserves have reached a new high of US $ 7.47 trillion. In 2013, Asia accounted for 70% of all new foreign exchange reserves the world over. That included Taiwan, Hong Kong, Singapore and South Korea. All continued to establish new highs. Taiwan's foreign exchange reserves topped the four Asian tigers. The Mainland's foreign exchange reserves are approaching US $ 4 trillion.
Foreign exchange reserves are increasing. Most governments and most people see that as a good thing. It represents increased national wealth and increased national influence. It helps the government withstand financial crises. It reduces the impact of sudden capital flight. But excessive foreign exchange reserves make management of central bank foreign exchange reserves more difficult. This includes write-off costs, opportunity costs, and balance sheet risks. Large foreign exchange reserves can also create the illusion of safety in financial markets. They can reduce the incentive for financial reform, or delay it. Even worse, they can influence currency demand and supply decisions, especially in a floating exchange rate regime. That can complicate monetary policy decisions.
In recent years, real estate prices on Taiwan and the Mainland have skyrocketed. Some attribute this to the accumulation of large amounts of foreign exchange reserves. The real cause may be hot money made available by U.S. Quantitative Easying (QE). Foreign exchange reserves increased simultaneously, suggesting an equivalent increase in our own national currency. The speed and scale of the central bank write off was dwarfed by the increase in foreign exchange. This led to a substantial increase in the money supply, to abundant liquidity, and to low interest rates. Financial asset prices naturally increased. This imperceptibly accelerated the deterioration of society wide income distribution.
Financial asset prices can lead to a wealth effect. They can stimulate consumption and investment and promote economic growth. But on the whole, they tend to result in bubbles. They do more harm than good to a country's economic development. They are far less important to the real economy than financial asset price speculation. This is especially true since the United States released news that QE may cease by the end of this year, Absent the injection of massive liquidity, how long can the financial asset bubbles hold? That is truly worrisome. An asset bubble burst could usher in a new round of global financial crises. In other words, the rapid accumulation of foreign exchange reserves by Asian countries could conceal enormous asset bubbles.
The global financial situation is optimistic but contains hidden risks. Those in power cannot afford to take these lightly. They must take precautions and develop workarounds. For example, they must use fiscal or monetary policy, or even financial or tax reform, to cool down the overheated housing and stock markets. They must cool financial asset prices. They must anticipate future asset bubbles. The government must never be blindly optimistic about the economic situation, and goad investors into making investments.
In response to the rapid rise in foreign exchange reserves, the government must consider how it will manage its huge foreign exchange assets. This newspaper has suggested that the government consider setting aside part of its foreign exchange reserves as a sovereign wealth fund. Currently more than 30 countries around the world have sovereign wealth funds, including Singapore, Kuwait, Brunei, Norway, and the United Arab Emirates. Total value is approximately U.S. $ 6.321 trillion. This is roughly equal to the market value of the global stock market.
The ROC has not yet established a sovereign wealth fund. But substantively speaking, it has sovereign fund investments. In recent years, central bank foreign exchange reserve operations have remained stable. The surplus has gone to the treasury. The contribution is NT $ 200 billion per year. This covers fiscal deficits. Suppose we change the operation of sovereign funds? Suppose the central bank comes up with half the foreign exchange reserves? Suppose in conjuction with the four major funds, it comes up with US $ 200 billion? It could organize them into a US $ 400 billion sovereign fund foreign exchange operation. This would enhance its performance and provide universal access. Assuming a 5% annual rate of return, it could inject NT $ 600 billion into the treasury. The government would not need to increase taxes. This could provide the government with the financial resources required for major construction projects and stimulate economic growth. The central bank would no longer need to give the surplus to the treasury, It could concentrate on its four major business objectives, as specified by central bank laws.
Planning for the Mainland led BRICS Development Bank and "emergency reserve fund" is in full swing. Its purpose is to provide funding required for developing countries outside the Infrastructure fund. This will also serve as a mechanisms for the prevention of financial crises. The source of funds in these countries is their huge foreign exchange reserves. Given practical considerations of international politics, Taiwan may not be able to join such an organization, at least not in the short term. But we must nevertheless consider how we can take advantage of our huge long-term foreign exchange reserves. We must cooperate with the Mainland and other Asian countries. We must integrate ourselves into the regional currency swap mechanism. With regional currency swap mechanisms, the bigger the reserve pool, the greater the member state's security. This would enable Taiwan to enjoy greater security.
Given our huge foreign exchange reserves, we should be thinking on a grander scale. We should be thinking about how to make the best use of our foreign exchange reserves, This would increase the public welfare, and contribute to national security and stability.
由大陸主導的「金磚國家開發銀行」（BRICS Development Bank）及「緊急儲備基金」正如火如荼地進行規畫，目的除致力於資助開發中國家所需的基礎建設基金外，也將作為防範金融危機的機制，其中資金來源就是這些國家龐大的外匯存底。基於國際政治現實的考量，短期台灣或許無法加入這樣的組織，但長期仍可思考如何利用龐大的外匯存底，與大陸及亞洲國家合作，積極融入區域換匯機制。以區域換匯機制的精神來看，若能做大外匯儲備庫，成員國就多一分保障，這樣對台灣的安全就有更深一層的保障。