Foreign exchange reserves In the last decade, emerging countries have constantly sought to expand their foreign exchange reserves. The emerging markets’ average reserve ratio has more than quintupled from 4 percent to over 20 percent of GDP since 1990 (Obstfeld et al. 2009, Matteo y Lagos et al., 2009). One cannot assume, however, that equilibrium has been reached and that the demand for reserves will stabilize. On the contrary, there are strong indications that this trend will persist, or even be amplified, following the crisis. How much reserves are enough? Theoretical reasoning would balance the benefits of holding reserves against their cost, with some notion that there is an optimum. On the benefit side, reserves can be detained or accumulated for a variety of motives:   to smooth out the impact on consumption of shocks on the current account, which is the most basic and traditional motive, even in the absence of international capital flows    as a result or by-product of foreign market intervention to prevent exchange rate appreciation. This is usually defined as a “mercantilist” motive.   as precaution against possible abrupt capital outflows (the “sudden stop” syndrome)  The costs of holding reserves are also well identified:   there is a direct opportunity cost because foreign exchange reserves’ risk / return profile may be lower than for other, alternative, investments.   finally, as reserves accumulate, countries are getting increasingly exposed to exchange rate risk and face the possibility of significant valuation losses.
Norway is part of the European Economic Area, and EU regulations are thus applicable in this country. Within the remaining national discretion, Norwegian regulations are laid down by the Ministry of Finance, and implemented by the Financial Supervisory Authority. But Norges Bank aims to be an active advisor on these issues. Our work on macroprudential supervision provides insights that we wish to share with other supervisory authorities. The second component of macroprudential policies consists of short and medium term measures to alleviate the effects from the procyclical behaviour of financial institutions. There are two macroprudential aspect of procyclicality. It is the common exposures of a group of  BIS Review 112/2010  1  financial institutions. And it is the interconnectivity of financial institutions through trading and credit relationships. Common exposures are probably the most important of these interdependencies for crisis generation. Individual institutions can look perfectly healthy even when vulnerabilities are building up on the systemic level. The prime example of this phenomenon is naturally lending stimulating a price bubble in the property market. Developing time-varying macroprudential policies is not straightforward. The interest rate policy targets the inflation rate, and cannot always be set as would be appropriate for asset prices. There might be conflicting targets. We should thus be looking for new instruments. As you are certainly aware, most of the macroprudential policy instruments that have been proposed are the same as those already being used for microprudential purposes.