WHAT IS 'Monetary Reserve'

‘Monetary Reserve’ refers to central bank holdings of a country’s currency and precious metals. Reserves allow central banks to regulate currency and money supply as well as manage transactions in global markets. And they enable governments to meet current and near-term financial obligations. Reserves are an asset in a country’s balance of payments. The U.S. dollar is the predominant reserve asset, so most central banks hold much of their reserves in dollars.

BREAKING DOWN 'Monetary Reserve'

‘Monetary Reserve’ regulations and requirements have evolved over time. The current system of holding currency and commodities dates from 1971-73. At that time, President Richard Nixon enacted price controls and ended the U.S. dollar’s convertibility to gold in response to rampant inflation plus recession, or stagflation, as well as pressure on dollar and gold prices.

This change marked the end of the Bretton Woods Agreement era. The 1944 Bretton Woods Agreement set the exchange value for all currencies in terms of gold. Member countries pledged that central banks would maintain fixed exchange rates between their currencies and the dollar. If a country's currency value became too weak relative to the dollar, the central bank would buy its own currency in foreign exchange markets to decrease supply and increase the price. If the currency became too expensive, the bank could print more to increase supply and decrease price and thus demand.

Because the United States held most of the world's gold, a majority of countries pegged their currency value to the dollar instead of to gold. Central banks maintained fixed exchange rates between their currencies and the dollar. The value of the dollar increased even though its worth in gold remained the same, making the U.S. dollar effectively a world currency. This discrepancy eventually led to the collapse of the Bretton Woods system.

‘Monetary Reserve’ before Bretton Woods

Until World War I, most countries were on the gold standard, in which they guaranteed to redeem their currency for its value in gold. But to pay for the war, many went off the gold standard. This caused hyperinflation as money supply exceeded demand. After the war, countries returned to the gold standard.

During the Great Depression in response to the 1929 stock market crash, foreign exchange and commodities trading increased, which raised gold prices, so people exchanged dollars for gold. The Federal Reserve raised interest rates to defend the gold standard, worsening the crisis. The Bretton Woods system gave countries more flexibility than strict adherence to the gold standard, with less volatility than with no standard. A member country could change its currency's value to correct any disequilibrium in its current account balance.

RELATED TERMS
  1. Reserve Currency

    A reserve currency is held by central banks and other major financial ...
  2. Linked Exchange Rate System

    A linked exchange rate system is method of managing a nation's ...
  3. USD

    The USD is the abbreviation for the U.S. dollar.
  4. National Currency

    The currency or legal tender issued by a nation's central bank ...
  5. Gold Standard

    The gold standard is a system in which a country's government ...
  6. Bank Reserve

    A bank reserve is the currency deposit which is not lent out ...
Related Articles
  1. Investing

    How gold affects currencies

    There is a strong correlation between gold's value and the strength of currencies trading on foreign exchanges.
  2. Trading

    How the U.S. Dollar Became the World's Reserve Currency

    The U.S. dollar was first minted in 1914. Find out what occurred during the last century to make the U.S. dollar the world's reserve currency.
  3. Insights

    The Go-To Currency In 50 Years

    Discover why the euro will likely become heir to the currency throne.
  4. Trading

    Forex: World's Biggest Market A Relative Newcomer

    Unlike the stock markets, the forex market is a truly new market. We’ll take a brief look at its origins and how it works today.
  5. Trading

    Bretton Woods: How It Changed the World

    While the Bretton Woods system is no longer in place, it fundamentally changed the international monetary order.
  6. Trading

    How Inflation-Fighting Techniques Affect The Currency Market

    Central banks use these strategies to calm inflation, but they can also provide longer-term clues for forex traders.
  7. Trading

    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.
  8. Investing

    What is Fiat Money?

    Fiat money is currency that a government has declared to be legal tender, but is not backed by a physical commodity.
  9. Trading

    Canada And Australia Dollars To Be Reserve Currencies

    The IMF upgrading the Canadian and Australian dollars to "official" reserve currency status is a recognition of reality.
RELATED FAQS
  1. How do central banks acquire currency reserves and how much are they required to ...

    A currency reserve is a currency that is held in large amounts by governments and other institutions as part of their foreign ... Read Answer >>
  2. What happens if the Federal Reserve lowers the reserve ratio?

    Learn about the Federal Reserve's monetary policy and the tools it uses to control it. Understand what happens if the Federal ... Read Answer >>
  3. What is the gold standard?

    Learn more about the gold standard, including its complicated global history and its connection to the fiat system and the ... Read Answer >>
  4. What countries have the largest gold reserves?

    Find out which countries have the largest gold reserve stockpiles, and learn why governments still feel that it's necessary ... Read Answer >>
  5. Which country has the most gold?

    Learn which countries hold the most in gold reserves, and explore the reasons holding gold may be beneficial to a country's ... Read Answer >>
Hot Definitions
  1. Return on Assets - ROA

    Return on assets (ROA) is an indicator of how profitable a company is relative to its total assets.
  2. Fibonacci Retracement

    A term used in technical analysis that refers to areas of support (price stops going lower) or resistance (price stops going ...
  3. Ethereum

    Ethereum is a decentralized software platform that enables SmartContracts and Distributed Applications (ĐApps) to be built ...
  4. Cryptocurrency

    A digital or virtual currency that uses cryptography for security. A cryptocurrency is difficult to counterfeit because of ...
  5. Financial Industry Regulatory Authority - FINRA

    A regulatory body created after the merger of the National Association of Securities Dealers and the New York Stock Exchange's ...
  6. Initial Public Offering - IPO

    The first sale of stock by a private company to the public. IPOs are often issued by companies seeking the capital to expand ...
Trading Center