This paper analyses the maintenance of precautionary reserve holdings in Brazil, investigating three interrelated issues. Using one optimization process, an econometric model of the expected effects of this strategy, and on a cost-benefit analysis, the optimal level for international reserves is estimated. Different adequacy measures and model-based simulations offer the same inference about the inadequacy of the Brazilian reserve holdings, which have been maintained at excessive levels since 2008. Furthermore, the econometric exercise does not provide much support for the claim that accumulating high levels of reserves is highly significant in determining sovereign risk and the nation's external funding costs, as well as showing that reserves do not reduce exchange rate volatility. It seems, otherwise, to be related to a huge fiscal cost associated with the sterilization policy.
Foreign reserves; External shocks; Brazilian economy
