Sterilization

Definition of 'Sterilization'


A form of monetary action in which a central bank seeks to limit the effect of inflows and outflows of capital on the money supply. Sterilization most frequently involves the purchase or sale of financial assets by a central bank, and is designed to offset the effect of foreign exchange intervention. The sterilization process is used to manipulate the value of one domestic currency relative to another, and is initiated in the foreign exchange market.

Investopedia explains 'Sterilization'


Sterilization requires a central bank to look beyond its borders by getting involved in foreign exchange. For example, the Federal Reserve purchases a foreign currency, in this case the yen, and the purchase is made with dollars that the Fed had in its reserves. This action results in there being less yen in the overall market - it has been placed in reserves by the Fed - and more dollars, since the dollars that were in the Fed’s reserve are now in the open market. To sterilize the effect of this transaction the Fed can sell government bonds, which removes dollars from the open market and replaces them with a government obligation.

Emerging markets can be exposed to capital inflows when investors buy up domestic currencies in order to purchase domestic assets. For example, a U.S. investor looking to invest in India must use dollars to purchase rupees. If lots of U.S. investors start buying up rupees, the rupee exchange rate will increase. At this point the Indian central bank can either let the fluctuation continue, which can drive up the price of Indian exports, or it can buy foreign currency with its reserves in order to drive down the exchange rate. If the central bank decides to buy foreign currency it can attempt to offset the increase of rupees in the market buy selling rupee-denominated government bonds.



comments powered by Disqus
Hot Definitions
  1. National Best Bid and Offer - NBBO

    A term applying to the SEC requirement that brokers must guarantee customers the best available ask price when they buy securities and the best available bid price when they sell securities.
  2. Maintenance Margin

    The minimum amount of equity that must be maintained in a margin account. In the context of the NYSE and FINRA, after an investor has bought securities on margin, the minimum required level of margin is 25% of the total market value of the securities in the margin account.
  3. Leased Bank Guarantee

    A bank guarantee that is leased to a third party for a specific fee. The issuing bank will conduct due diligence on the creditworthiness of the customer looking to secure a bank guarantee, then lease a guarantee to that customer for a set amount of money and over a set period of time, typically less than two years.
  4. Degree Of Financial Leverage - DFL

    A ratio that measures the sensitivity of a company’s earnings per share (EPS) to fluctuations in its operating income, as a result of changes in its capital structure. Degree of Financial Leverage (DFL) measures the percentage change in EPS for a unit change in earnings before interest and taxes (EBIT).
  5. Jeff Bezos

    Self-made billionaire Jeff Bezos is famous for founding online retail giant Amazon.com.
  6. Re-fracking

    Re-fracking is the practice of returning to older wells that had been fracked in the recent past to capitalize on newer, more effective extraction technology. Re-fracking can be effective on especially tight oil deposits – where the shale products low yields – to extend their productivity.
Trading Center