Why do central banks maintain foreign currency reserves?

[plaguedbyfoibles]

Why do central banks maintain foreign currency reserves, and how do they exchange some of these foreign currencies with their fellow central banks?

My understanding is that stockpiling the currencies of other nations can weaken their domestic currency so as to make their exports cheaper, to service debts denominated in other currencies (especially common ones like USD), to prevent a run on their domestic currency by exchanging their foreign currency for the domestic currency, to maintain trade with other countries if tourists wish to exchange their domestic currency for the foreign currency etc.

I see from https://www.thebalance.com/swap-line-de ... es-3305966 that central banks have "swap lines", agreements between them to maintain foreign currency reserves so they can swap with each other.

From point 6 of https://www.cityindex.co.uk/market-anal ... -reserves/, i.e. "To reassure foreign investors", I presume this means to say that without maintaining reserves of foreign currencies, or reserves of other valuable commodities such as gold (which is always mentioned as being a store of value, and for which there is no counterparty risk), there is really nothing that will instill trust or confidence in your domestic currency.

[1nvest]

In pre 1932 gold standard years the UK used to have cages for different countries and gold bars were moved between cages according to trade surplus/deficits. Money and gold were the same, interchangeable at fixed/pegged rates. Broad long term inflation averaged 0% and lending to the state in return for some interest was a form of real rate of return, so many investors simply just held bonds (government treasuries/gilts). That situation had existed for centuries, British Empire, where Britain was a global hub for accounting/finance/law etc. Following the collapse of that Empire, WW1 in effect having been the collapse/bankruptcy, the US stepped up to the helm and ended the gold standard, made the US$ the primary reserve currency, with a pledge that it would act responsibly, which it hasn't. Printing/spending dollars is paramount to being able to create gold in old standard terms, and the US has printed/spent to its hearts desire. In effect exporting inflation onto others, ending the situation where bonds in effect paid real rates of return, to where they averaged 0% real, less after taxes, inducing more investors to invest in stocks instead. That era is coming to a end. Others such as Russia/India/China/South America/Africa/Arabia dislike that US advantage and are transitioning over to their own separate systems. The EU/much of Europe is presently somewhat between both systems.

The US would rather that the US$ remained the primary reserve currency, oil ...etc. all priced and settled in US$. As part of that all clearance passing through the US, up the tree one side, through the US, and back down again ... facilitates control i.e. the US being able to cut off clearance - as it presently can do in the case of Russia. But the proportion of global countries agreeing to continue that arrangement is in decline, with much of the global population shifting away from that. Back to a combination of gold standard and agreements to trade in their own respective domestic currencies. In such case its appropriate for central (countries main) banks to hold foreign currencies, particularly currencies in which they have the highest level of settlements, so if the domestic currency falters for a while they have foreign currencies (and/or gold) that can be used as settlement at the time.

The US is the heart of capitalism, and with in effect unlimited scope to create/print/spend money in decline, so a period of stagnation/collapse is in the pipeline, where perhaps only 2 billion and declining of the worlds 8 billion population follow that standard. A new paradigm, where the inclination is towards more of different countries currencies being held in reserves as part of domestic currency stabilisation. India buys a lot of energy from Russia, as do China, so their central bank is inclined to hold some Rouble's as might Russia hold Rupee's/Yuan. Think of it in terms of If/when a billion Russian Rupee gas bill drops into India's inbox, so India might opt to settle using whatever currency is appropriate at that time, maybe pay in Roubles out of reserves, or convert Rupee's to Roubles, or sell/send some gold, whatever.

The Ukraine war is seeing Russia opting to move its supply of energy/food away from Europe - that it sees as US supporting, towards countries like India/China that have massively rising demands for energy. Circumventing/reducing its exposure to US controls. US sanctions following transition will have minimal effect upon Russia, whilst having a major effect upon the 'capitalist west'. This century might see stocks go the way of bonds, total returns broadly yielding 0% real. Worst for some, better for others according to luck of timing.