The IMF’s Special Drawing Right

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Overview:

During 2015, The International Monetary Fund (IMF) reviewed the basket of currencies used to determine the value of the Special Drawing Right (SDR), the international reserve asset created and used by the IMF. Following a recommendation by IMF staff, the IMF Executive Board decided on November 30, 2015 to include the Chinese RMB in the SDR basket as a fifth currency, alongside the U.S. dollar, euro, British pound, and Japanese yen. The decision will be effective on October 1, 2016.

What is the SDR? 

The SDR was initially defined as equivalent to 0.888671 grams of fine gold—which, at the time, was also equivalent to one U.S. dollar. After the collapse of the Bretton Woods system, the SDR was redefined as a basket of currencies.

The SDR is neither a currency nor a claim on the IMF. Rather, it is a potential claim on the freely usable currencies of IMF members. SDRs can be exchanged for these currencies.

The SDR basket is reviewed every five years, or earlier if warranted, to ensure that the basket reflects the relative importance of currencies in the world’s trading and financial systems. 

All 189 IMF member countries, the IMF itself, and various international organizations utilize SDRs. Although not an international currency in and of itself, SDRs can be exchanged for hard currency and can be used in international transactions by central banks and other monetary authorities. Private sector holding of SDRs is prohibited. 

IMF members receive interest on their SDR holdings and pay charges on their cumulative allocations of SDRs at the same interest rate. The SDR interest rate is a weighted average of 3-month sovereign bill rates of these currencies.

In 2000, the IMF Executive Board adapted criteria for determining the SDR basket of currencies. It included four currencies issued by members or currency unions whose exports of goods and services had the largest value over a five-year period and were determined by the IMF to be “freely usable.” 

The 2015 SDR review consisted of two components: (1) a technical review by IMF staff to determine whether the RMB meets the SDR criteria; and (2) a vote by the IMF Executive Board. Decisions to change the valuation method are based on a 70% majority vote.

Criteria for Including Currency in SDR Basket:

Export Criterion:  A currency meets the export criterion if its issuer is an IMF member or a monetary union that includes IMF members, and is also one of the top five world exporters. The level of a country’s exports provides an initial test of its currency’s potential for inclusion in the SDR basket. This criterion ensures that the SDR basket comprises currencies that play a central role in the global economy. 

Freely Usable Criterion: In addition to meeting the export criterion, a country’s currency must be “freely usable,” meaning that it is widely used to make payments for international transactions, and is widely traded in principal exchange markets. According to the IMF, the concept of a freely usable currency concerns the actual international use and trading of currencies, and is different from whether a currency is either freely floating or fully convertible. Thus, a currency can be widely used and widely traded even if it is subject to capital account restrictions. Conversely, a freely floating and fully convertible currency may not necessarily be freely usable. 

The decision of whether a currency is freely usable is informed by the level of official reserves denominated in that currency, as well as consideration of other indicators of the breadth and depth of the currency’s use and trading in global financial markets. These include the currency denomination of international debt securities, international banking liabilities as indicators for assessing wide use, and the volume (turnover) of transaction in foreign exchange markets. However, the indicators are not applied mechanistically and the freely usable determination ultimately requires judgment by the IMF Executive Board.  

During the review concluded in November 2015, the Board decided that the Chinese renminbi (RMB) met the criteria for SDR basket inclusion. Following this decision, the Chinese RMB joined the US dollar, euro, Japanese yen, and British pound sterling in the SDR basket, effective October 1, 2016 and the three-month benchmark yield for China Treasury bonds was included in the SDRi basket. During the 2015 review, the Board also approved a new formula—assigning equal shares to the currency issuer’s exports and a composite financial indicator—to determine the weights of currencies in the SDR basket.

In March 2021, the Executive Board extended the prevailing SDR valuation basket to July 31, 2022 effectively resetting the five-year cycle of SDR valuation reviews, for a new basket to become effective on August 1, 2022

On May 11, 2022, the Executive Board concluded the last SDR valuation review. The Board decided to maintain the currency composition of the SDR basket and determined new currency weights. On July 29, 2022, the Executive Board decided on the amounts (number of units) of each currency in the SDR valuation basket. These amounts will be effective for a period of five years, starting from August 1, 2022

https://www.imf.org/en/About/Factsheets/Sheets/2016/08/01/14/51/Special-Drawing-Right-SDR#:~:text=The%20SDR%20is%20neither%20a,be%20exchanged%20for%20these%20currencies.

https://crsreports.congress.gov/product/pdf/IF/IF10327/5

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