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Emerging Markets

Peru mulls dollar reserves switch

Peru’s central bank is considering a basket of currencies to reduce the proportion of dollars in its reserves.

Peru’s central bank is considering a basket of currencies to reduce the proportion of dollars in its reserves.

“There is interest in diversifying reserves, to reduce the profile of the dollar. This idea is similar to what the Chinese have proposed: trying to find alternatives,” central bank president Julio Velarde told Emerging Markets.

Peru’s reserves are currently 80% in dollars and 20% in euros, but is now considering moving 15% from dollars to a basket of other currencies.

Peru’s net international reserves totalled $29.38 billion as of March 3, according to central bank data.

The central bank had divested of small quantities of Canadian dollars and Japanese yen – but may now buy these, together with the currencies of Australia, Norway, and possibly those of emerging market nations with investment-grade ratings, such as Brazil and Mexico.

In the short term Velarde said the central bank will continue aggressively lowering interest rates and intervening in the currency market as long as the financial crisis lasts. He said the bank’s board will definitely lower interest rates when it meets on 8 April.

The board lowered rates by 25 basis points (bp) twice this year, and Velarde said he expects a larger drop in the coming week.

“I don’t know what the rate will be, but we will be more aggressive than the 25 points from the past two months,” he said.

He also said that the bank would probably continue intervening in the exchange market to keep the nuevo sol from moving too dramatically against the dollar.

The bank has sold $6.8 billion since the financial crash of September last year. It did not intervene in March, but Velarde said that this does not reflect a change in policy.

The bank’s currency stabilization operations totalled $8.4 billion in 2008 and slightly more than $10 billion in 2007. The totals, however, were mainly in the purchase of dollars.

Peru intervenes more than other countries in the exchange market because of its highly dollarized economy. About 50% of bank deposits in Peru are in US dollars. It is just one of handful of countries in South America, along with Paraguay and Uruguay, that have partially dollarized systems. Ecuador, El Salvador and Panama have dollarized economies.

“We need to watch exchange rates more closely, because nearly half of bank loans are in dollars,” he said.

Peruvian authorities, including Velarde, say that prudent management during the bonanza years this decade have provided the country with a cushion. Peru has not had to turn to the markets to finance its $3.4 billion stimulus package or finance its debt. The late March $1 billion bond issue was for provisions for 2010.

But Velarde said he expects a great deal of volatility this year – particularly of “soft” commodities such as soy beans, wheat and corn – that could create additional pressures, particularly with inflation.

Velarde said volatility could lead countries, including Peru, to miss inflation targets for the year. Peru’s inflation target is 2%, which is the middle range for 2009. Inflation in 2008 was 7%, low for the region but still more than double the target.

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