Regional Reserve Pooling Arrangements

Recently, some emerging market countries have initiated intra-regional reserve pooling mechanisms. This is puzzling from a traditional risk-diversification perspective, because country-level shocks are more correlated within rather than across regions. This paper provides a novel rationale for regional pooling. Country self-insurance via noncontingent assets generates externalities through terms of trade shocks for the country's trading partners, because the welfare of the latter is not taken into account in the country's reserve accumulation decision. If trade linkages are stronger within rather than across regions, then intra-regional reserve pooling arrangements may dominate inter-regional arrangements, even if shocks are more correlated within regions.