Sterilized Intervention


DEFINITION of 'Sterilized Intervention'

The purchase or sale of foreign currency by a central bank to influence the exchange value of the domestic currency, without changing the monetary base. Sterilized intervention involves two separate transactions: 1) the sale or purchase of foreign currency assets, and 2) an open market operation involving the purchase or sale of U.S. government securities (in the same size as the first transaction). The open market operation effectively offsets or sterilizes the impact of the intervention on the monetary base. If the sale or purchase of the foreign currency is not accompanied by an open market operation, it would amount to an unsterilized intervention. Empirical evidence suggests that sterilized intervention is generally incapable of altering exchange rates.

BREAKING DOWN 'Sterilized Intervention'

Consider a simple example of sterilized intervention. Assume that the Federal Reserve is concerned about the weakness of the dollar against the euro. It therefore sells euro-denominated bonds in the amount of EUR 10 billion, and it receives $14 billion in proceeds from the bond sale. Since the withdrawal of $14 billion from the banking system to the Federal Reserve would affect the federal funds rate, the Federal Reserve will immediately conduct an open market operation and buy $14 billion of U.S. Treasuries. This injects the $14 billion back into the monetary system, sterilizing the sale of the euro-denominated bonds. The Federal Reserve in effect also shuffles its bond portfolio by exchanging euro-denominated bonds for U.S. Treasuries.

The U.S. Treasury department is responsible for determining the nation’s exchange rate, and for that purpose, it maintains the Exchange Stabilization Fund, which is a portfolio of foreign currency and dollar-denominated assets. The Federal Reserve also has a foreign currency portfolio for the same purpose. Exchange rate intervention is carried out jointly by the Treasury and Federal Reserve.

One of the main tools used by the Federal Reserve to influence monetary policy is its target for the federal funds rate, which is set by the Federal Open Market Committee primarily to achieve domestic objectives. Since the Federal Reserve would never permit its intervention activities to have an impact on its monetary policy operations, it always uses sterilized intervention. Central banks of major nations – such as the Bank of Japan and the European Central Bank – which also use an overnight interest rate as a short-term operating target, likewise sterilize their currency interventions.

  1. Currency

    Currency is a generally accepted form of money, including coins ...
  2. Monetary Policy

    Monetary policy is the actions of a central bank, currency board ...
  3. Exchange Rate

    The price of a nation’s currency in terms of another currency. ...
  4. Currency Exchange

    A business that allows customers to exchange one currency for ...
  5. Digital Currency Exchanger - DCE

    A market maker who exchanges legal tender for electronic currency, ...
  6. Foreign Exchange Intervention

    A monetary policy tool in which a central bank takes an active ...
Related Articles
  1. Economics

    7 Misconceptions About The Federal Reserve

    There are many fallacies about the Fed. The following misconceptions are among the most popular.
  2. Bonds & Fixed Income

    The Treasury And The Federal Reserve

    Find out how these two agencies create policies to stimulate the economy in tough economic times.
  3. Forex Education

    Currency Exchange: Floating Rate Vs. Fixed Rate

    Baffled by exchange rates? Wonder why some currencies fluctuate while others are pegged? This article has the answers.
  4. Personal Finance

    How The U.S. Government Formulates Monetary Policy

    Learn about the tools the Fed uses to influence interest rates and general economic conditions.
  5. Personal Finance

    How The Federal Reserve Manages Money Supply

    Find out how the Fed manages bank reserves and this contributes to a stable economy.
  6. Personal Finance

    How The Federal Reserve Was Formed

    Find out how this institution has stabilized the U.S. economy during economic downturn.
  7. Economics

    When The Federal Reserve Intervenes (And Why)

    The Federal Reserve doesn't interfere with the economy every time it flounders. Find out more here.
  8. Forex Education

    Dual And Multiple Exchange Rates 101

    Why would a country choose to implement dual or multiple exchange rates? It's risky, but it can work.
  9. Fundamental Analysis

    Understanding The Federal Reserve Balance Sheet

    We are all connected to the Fed's balance sheet, and the currency notes that we hold are its liabilities.
  10. Personal Finance

    What Are Central Banks?

    They print money, they control inflation, and much, much more. All you need to know about central banks is here.
  1. How do you make working capital adjustments in transfer pricing?

    Transfer pricing refers to prices that a multinational company or group charges a second party operating in a different tax ... Read Full Answer >>
  2. Marginal propensity to Consume (MPC) Vs. Save (MPS)

    Historically, because people in the United States have shown a higher propensity to consume, this is likely the more important ... Read Full Answer >>
  3. When has the United States run its largest trade deficits?

    In macroeconomics, balance of trade is one of the leading economic metrics that determines the trading relationship of a ... Read Full Answer >>
  4. How are NDFs (non-deliverable forwards) priced

    The price of non-deliverable forward contracts, or NDFs, is commonly based on an interest rate parity formula used to calculate ... Read Full Answer >>
  5. Which is more important to a nation's economy, the balance of trade or the balance ...

    There is no question the composition of a country's balance of payments is more important than its balance of trade. This ... Read Full Answer >>
  6. What are the goals of covered interest arbitrage?

    The goals of covered interest arbitrage include enabling investors to trade volatile currency pairs without risk as well ... Read Full Answer >>

You May Also Like

Hot Definitions
  1. Black Friday

    1. A day of stock market catastrophe. Originally, September 24, 1869, was deemed Black Friday. The crash was sparked by gold ...
  2. Turkey

    Slang for an investment that yields disappointing results or turns out worse than expected. Failed business deals, securities ...
  3. Barefoot Pilgrim

    A slang term for an unsophisticated investor who loses all of his or her wealth by trading equities in the stock market. ...
  4. Quick Ratio

    The quick ratio is an indicator of a company’s short-term liquidity. The quick ratio measures a company’s ability to meet ...
  5. Black Tuesday

    October 29, 1929, when the DJIA fell 12% - one of the largest one-day drops in stock market history. More than 16 million ...
  6. Black Monday

    October 19, 1987, when the Dow Jones Industrial Average (DJIA) lost almost 22% in a single day. That event marked the beginning ...
Trading Center