As Brad Setser noted overnight, Fed custody holdings have been increasing in the last couple of weeks, which suggests that the foreign central banks are not reducing their holdings of dollar reserves, but RebelEconomist suspects that the custody holdings may be a misleading indicator at the moment. This is because the custody accounts are probably being used in the dollar lending operations conducted by various
The dollars being lent by the participating central banks (the European Central Bank plus the central banks of Britain, Switzerland, Japan, Canada, Australia, Sweden, Denmark and Norway) are lent to them by the Federal Reserve, in return for a loan of their own currency, under a reciprocal swap lines arrangement. Being
Since the reciprocal swap arrangements have been expanded three times already this month, on the 18th, 24th, and 26th, and because the central banks involved have increased their dollar lending, other things equal, it would not be surprising to see an increase in Fed custody holdings at the moment. But this would not necessarily mean that central banks are accumulating dollar reserves, and may conceivably be concealing a reduction in dollar reserves holdings.
Addendum: how the swaps work:
The question of how the swaps work has arisen in the comments on this post.
Initially, I had imagined, for each increase in the reciprocal swap programme, a single foreign exchange swap between the Fed and each central bank involved, which effectively loaned the stated amount of dollars to the foreign central bank until April 30th 2009 (the programme's planned horizon at present) against collateral of their own currency, to be lent by them as the need for dollars arose from their commercial banks. I therefore thought that the swaps must be off-balance sheet, because there was no item on the Fed's H.4.1 report sufficiently large (ie $290bn from September 26th) to account for either side of the swap. After further consideration and discussion elsewhere, I now think that the announced size of the swap programme (which has since increased to $620bn) actually represents the maximum size of a portfolio of swaps. My guess is that, for each dollar loan auction by a foreign central bank, the dollars are drawn from the Fed via a matching currency swap of the same size and term as the loan. These dollar loans from the Fed are probably included in the “Other Federal Reserve Assets” line of H.4.1, but since they have yet to build up to their limit, that item remains much smaller than the reported size of the reciprocal swap programme.
I had been wondering about the pricing of the swaps, which would be a huge issue if the swap is for seven months and the dollar lending is for shorter periods, but I would expect that the terms of the swap are arranged so that their pricing reflects the dollar interest rate achieved in each auction. Nevertheless, it must be said that this kind of detail should be given in the notices (including from the foreign central banks involved) that announce these operations. Now that the swap programme is so large, the potential interest differentials (depending on how the swaps are arranged) are in the order of billions of dollars over the planned life of the programme.