IMF Executive Board Completes the 2015 Review of SDR Valuation
Under the existing SDR valuation method adopted by the Executive Board in 2000, the SDR currency basket is reviewed every five years unless developments in the interim justify an earlier review. SDR reviews evaluate the currency selection criteria, the selection of currencies, the weighting methodology, and the composition of the SDR interest rate basket, with the aim of enhancing the attractiveness of the SDR as an international reserve asset.
Since 2000, the currencies included in the SDR have been the four currencies issued by Fund members, or by monetary unions that include Fund members, whose (i) exports of goods and services during the five-year period ending 12 months before the effective date of the revision had the largest value, and (ii) which have been determined by the Fund to be freely usable currencies in accordance with Article XXX(f) of the Articles of Agreement. A freely usable currency is a member’s currency that the Fund determines (i) is, in fact, widely used to make payments for international transactions, and (ii) is widely traded in the principal exchange markets.
The Executive Board conducted the last SDR valuation review in 2010 and concluded that four currencies (U.S. dollar, euro, Japanese yen, and British pound) would continue to comprise the SDR basket. At that point China met the export criterion but the renminbi (RMB) was not included in the SDR basket as it was not judged to be freely usable. At an informal discussion in July on initial considerations for this review, Directors considered it appropriate to focus the review on whether the RMB could be determined a freely usable currency, which would allow its inclusion in the SDR basket under the current SDR valuation framework. At that time, Directors also called on staff to develop proposals for changing the weighting formula to better align basket weights with currencies’ relative importance in international transactions.
In August 2015, the Executive Board approved an extension of the current SDR basket from December 31, 2015 through September 30, 2016 (see Press Release No. 15/384). This extension was granted to ensure continued smooth functioning of SDR operations pending the completion of the current review, to allow users sufficient lead time to adjust in the event that a decision was taken to add a new currency to the basket, and to respond to feedback from SDR users on the desirability of avoiding changes in the basket at the end of the calendar year.
Executive Board Assessment1
Executive Directors concluded the quinquennial review of the method of valuation of the Special Drawing Right (SDR). They reaffirmed the existing criteria for currency selection for the SDR basket—the export criterion and the freely usable criterion—and applied these two criteria in the review.
Directors noted that the ranking of the largest exporters remains broadly unchanged since the last review. They observed that China, as the third-largest exporter, continues to meet the export criterion for SDR basket inclusion, and noted the narrow margin separating Japan and the United Kingdom, the fourth- and fifth-largest exporters, respectively. Recognizing that the demand for a currency as a reserve asset reflects principally the economic position of the area where a currency is issued, Directors agreed that the currency-based approach already applied to monetary unions should be used for all currencies when assessing the export criterion.
Directors noted the substantial increase in the international use and trading of the renminbi (RMB) since the last review, across all the indicators used to inform the assessment. They agreed that the RMB can now be considered “in fact, widely used to make payments for international transactions” and “widely traded in the principal exchange markets.”
Directors commended the Chinese authorities for implementing substantial reforms that have supported the internationalization of the RMB and would facilitate its use in Fund operations. They recognized some remaining operational challenges but expected their impact to be mitigated by a number of factors, including the unencumbered access of Fund members and SDR users to both onshore and offshore markets. Directors stressed the importance of continuing and deepening the recent reforms and addressing any operational issues that may arise.
In light of the above considerations, Directors agreed that, effective October 1, 2016, the RMB is determined by the Fund to be freely usable. Directors further agreed that upon the effectiveness of this determination, the RMB will meet both criteria for SDR inclusion and will be added as a fifth currency in the SDR basket, in addition to the U.S. dollar, euro, Japanese yen, and pound sterling. Directors considered that expanding the basket to five currencies is appropriate, given that the relative rankings of the export shares of Japan and the United Kingdom have switched over time. They also viewed the administrative burden of expanding the basket by one currency as manageable. Authorities of all currencies represented in the SDR basket, which would now include the Chinese authorities, are expected to maintain a policy framework that facilitates operations for the Fund, its membership and other SDR users in their currencies.
Directors agreed that in order for the SDR basket to reflect the characteristics of currencies rather than members, the currency-based approach applied since 2000 to monetary unions should be applied to all currencies when determining currency weights. They welcomed the weighting formula proposals as they address issues recognized in previous reviews, in particular by increasing the share of financial variables relative to exports, broadening the scope of the financial variables to cover private sector transactions, and setting fixed weights for exports and financial variables.
Specifically, Directors supported a formula consisting of equal weights on exports and a financial variable, with the latter comprising in equal shares official holdings of foreign exchange, foreign exchange turnover, and the sum of international bank liabilities and international debt securities. They viewed this formula as simple and transparent, while preserving broad stability in the composition of the basket and continuity in the method of valuation. Directors agreed that where data for any variable in the weighting formula are not available from uniform sources or for each year of the relevant valuation period, appropriate alternative data sources shall be used and the average values of available data shall be calculated as inputs. They underscored the importance of making efforts to address remaining data gaps, including in the currency coverage of the COFER database, ahead of the next SDR review.
Directors considered that the financial instruments representing the current four currencies used in determining the SDR interest rate remain appropriate. For the RMB, they regarded the three-month benchmark yield for China Treasury bonds as broadly reflecting conditions in the onshore money market while having a credit risk profile of the highest quality. Accordingly, Directors agreed that it is the most appropriate RMB-denominated instrument and meets the established characteristics for instruments in the SDR interest rate basket, and thus decided to add it to the basket.
Directors noted that when the new SDR currency basket comes into effect, the SDR interest rate is likely to be affected, as on past occasions. They looked forward to a comprehensive discussion of the implications of any such changes in the SDR interest rate in the context of the next review of the Fund’s income position in April 2016. This would allow any relevant policy decisions to be taken well in advance of the effectiveness of the new SDR basket.
Directors acknowledged the lead time necessary for the Fund, its members, and other SDR users to adjust to today’s decisions. They thus agreed that all of the above changes would take effect as of October 1, 2016.
Directors agreed that the SDR basket be established for five years, consistent with past practice. Accordingly, following their earlier decision to extend the current SDR basket through September 2016, Directors agreed that the next review of the method of valuation of the SDR should take place by September 30, 2021, unless developments in the interim justify an earlier review.
Annex—Summary of Key Decisions
SDR Basket Composition and Size
The Executive Board determined that the RMB meets the existing currency selection criteria for the SDR basket. In particular, the Executive Board decided that, effective October 1, 2016, the Chinese renminbi (RMB) is determined to be freely usable and will be added to the SDR as the fifth currency, along with the U.S. dollar, euro, Japanese yen, and pound sterling. Effectiveness as of October 1, 2016, is intended to provide sufficient lead time for the Fund, its members and other SDR users to adjust to these changes.
Currency Weights in the SDR (and SDR Interest Rate) Basket
The Executive Board adopted a new formula for determining currency weights in the SDR basket to address long-recognized issues with the formula that had been in place since 1978. The adopted formula is one of the two alternatives presented in the 2010 Review of the Method of Valuation of the SDR and assigns equal shares to the currency issuer’s exports and a composite financial indicator, where the latter comprises, in equal shares, official reserves denominated in the member’s (or monetary union’s) currency that are held by other monetary authorities that are not issuers of the relevant currency, foreign exchange turnover in the currency, and the sum of outstanding international bank liabilities and international debt securities denominated in the currency.
In accordance with the adopted formula, the following weights will be used to determine the amounts of each of the five currencies in the new SDR basket that will take effect on October 1, 2016:
- U.S. dollar 41.73 percent
- Euro 30.93 percent
- Chinese renminbi 10.92 percent
- Japanese yen 8.33 percent
- Pound sterling 8.09 percent
The dollar and the euro would continue to account for the bulk of the weight in the SDR basket. The amounts of each currency in the revised basket will be calculated on September 30, 2016 based on exchange rates of the component currencies over the three months ending on that date, in a manner that ensures that the value of the SDR will be the same on September 30, 2016 under the current and revised valuation baskets. The IMF will publish illustrative currency amounts in the weeks leading up to October 1, 2016.
A press release providing the final currency amounts in the new SDR valuation basket to take effect on October 1, 2016 will be issued by the IMF on September 30, 2016. The first SDR interest rate based on the new basket will be determined on October 7, 2016, and will be applied for the week beginning October 10, 2016. Further information on the SDR can be found on the IMF's website (http://www.imf.org/external/fin.htm).
SDR Interest Rate
The Executive Board decided that the RMB would be represented in the SDR interest rate basket by the three-month benchmark yield for China Treasury bonds. The interest rate on the three-month Treasury bills of the United States, United Kingdom, and Japan, and the three-month spot rate for euro area central government bonds with a rating of AA and above (published by the European Central Bank) will continue to serve as the representative interest rates for the U.S. dollar, pound sterling, Japanese yen, and euro, respectively. The change will take effect on October 1, 2016.
Next Review
The next review of the method of valuation of the SDR will take place by September 30, 2021, unless an earlier review is warranted by developments in the interim.
1 An explanation of any qualifiers used in this section can be found here: http://www.imf.org/external/np/sec/misc/qualifiers.htm.
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