I was reading about Bolivia running out of US Dollars and the government is shitting their pants.
Why is this a problem?
I don’t have any US dollars and I’m fine. If I buy something from an American website, I don’t need US dollars. I only have Euros in my bank account. I will use my Euro bank card to buy something from the American website.
Same if I buy something from a Japanese website. I don’t need Japanese Yen. I just use my bank card.
I can survive my entire life without worrying about having “foreign reserves”.
So why do countries like Bolivia need foreign reserves to buy some oil or whatever?
In: Economics
when you buy something from an American website your bank does the exchange of euros to dollars
countries need foreign reserves because other countries might want to be paid in their own currency
For a transaction to take place (normally), there needs to be a WILLING buyer and seller.
A company in one country cannot force a company in another country to accept their currency in exchange for goods. It is really as simple as that.
When you go on a sales website, all this is hidden from the consumer. You purchase something from the US with Euro (in your mind) but the actual transaction goes from your bank account to the website operator’s bank account in Euro. The website operator converts the Euro to USD, usually sending it to their USD bank account in the US. Then the US bank sends the dollar equivalent to the seller’s bank account.
There is even MORE going on behind the scenes. In any case, the central bank manages reserves because it has to be ready to step in, if needed, to provide exchange to their banks. The domestic bank supports domestic importers and exporters (and tourists etc) with foreign exchange services.
If Denmark bought some stuff from Japan and paid Japan in Krone, what’s Japan going to do with all that Krone? Try to buy from America with Krone? Pay their Japanese civil servants with Krone? It’s not like it gets automatically changed into Yen, that’s just a neat little trick your bank does behind the scenes for you *because* they either have reserves or can buy from someone who does.
Japan *could* try to get the money exchanged through a private company, but it’s going to be cheaper and easier for everyone if Denmark keeps their own reserve of Yen and pays in that
Foreign currency reserves allow a country to continue importing things it needs, like oil, even when its own economy is in crisis. They can try to stabilize their own currency by buying it back with foreign dollars. International loans and trade will require repayment in US dollars.
Your bank card full of euros only works on foreign sites because your country has a strong economic partnership and a good exchange rate with foreign currencies. But a bank card full of Bolivianos might not be accepted anywhere outside Bolivia if the economy continues to be so volatile.
Also, when you buy something online from a US shop, they’re not given Euros. Your bank exchanges it into dollars for you. A country trying to exchange a lot of currency at once can in itself tank their economy, so it’s quite delicate.
When you make an international purchase you are doing so in their currency. Your bank is doing the currency exchange for you as a part of their banking services. If there was then some scenario where your bank could no longer do the currency exchange then you would not be able to complete those purchases.
Otherwise many of your regular consumer items were imported or dependent on some international trade, even if you the end consumer are buying it locally with your own currency. The businesses, banks, and government have already done all of the international exchange for you, if they suddenly can’t or are restricted in their ability to do so it will have an effect on the availability and prices of the goods you purchase locally.
Because other countries don’t want Bolivian currency. If you took your euros to the USA, you wouldn’t be able to use them at a gas station or restaurant, you’d have to convert it to currency they would accept. There isn’t a lot of demand for Bolivian currency, so it might be difficult for the Bolivian government to pay for things if they can’t get ahold of enough currency that other countries want, like US$ or Euros. Additionally, their currency might not be as stable in value, so fewer countries would want to trade for their currency as it might lose too much value before they could use it themselves, which might be a long while as Boluvia doesn’t produce very much that the rest of the world wants to buy.
When you buy stuff online from foreign countries, or use your bank/credit card in foreign countries, your bank and/or credit card company make the conversions between currencies according to whatever current rates they use.
You do need US dollars to buy something from an American website. Your bank is just doing the change of currency behind the scenes so you’re not bothered. That’s one of the reasons you have a bank, they provide financial services to make your life a little bit easier. For a fee.
The American company doesn’t give a shit about your local currency, they can’t use it to pay their employees, their taxes, their American providers, etc…
Large online retailers (like Amazon) may have a subsidiary company in your country accepting local currency and they handle the problems of having hundreds of accounts in several dozens of currencies themselves.
Foreign currency reserves are banknotes, bonds, deposits, treasury bills denominated in another currency held by the local central bank to maintain liquidity in case of currency devaluation (ie your local currency isn’t worth shit anymore but the central bank has a reserve in another currency) and to help various local economic actors with large capital movements (bank A needs a ton of currency B to meet the legal obligation of a contract they signed for whatever reason, central bank can provide currency B in exchange of local currency to smooth things for everyone).
If you buy something from American website, you either convert your local currency to dollar, or rely on someone else to do it for you.
Under normal circumstances, this happens smoothly by individuals and private institutions. But in times of crisis, the conversion rate might drop really swiftly, and your purchases will be much more expensive.
Foreign reserve can ease on that. The country will sell its reserves in times of need, to make the local currency less weak, and moderate the price increases.
if you are buying internationally, chances are you can’t use your own currency. it’s easy to understand this if you are going to another country for a vacation.
if you invest in another country, your returns will be in their currency. if you invest a lot internationally, you will have tons of foreign currency.
if you are trade reliant, you are also exchange rate reliant. you don’t want the rates to go out of control. holding a large sum of their currency allows you to manipulate it to some extent, weakening or strengthening the rate against other forces as necessary. countries like China, India, Malaysia and Singapore do this.
if any of the above apply, you will probably also be borrowing foreign currency, either from their central bank or from other international sources. holding a bunch of that currency already improves confidence from the lending party that you can meet your debt obligations.
Since most have already given the reason, I will share a recent example.
During the outbreak of the Russian Ukraine war, Russia was hit with sanctions which reduced the buyers. So Russia offered to sell crude to India in exchange for rupees. India took them up on the offer. But, again due to petroleum, the trade between them was lopsided with Russia selling a lot more to India than it was buying from India. This led to Russia holding a rupee surplus that it didn’t know where to spend. India is still a net importer so there are not a lot countries willing to sell to Russia in exchange of rupees. They ended up investing a lot in the Indian bond market.
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