What Are Special Drawing Rights, and How Do They Work?


Triston Martin

Oct 30, 2023

The International Monetary Fund uses interest-bearing Special Drawing Rights (SDRs) as an international reserve currency (IMF). In addition to the currency symbol XDR, the Special Drawing Rights (SDR) are also known as the currency basket. The SDR serves as the International Monetary Fund's accounting unit for internal use.

Members of the International Monetary Fund (IMF) can also utilize SDRs to bolster their national foreign currency reserves.

What Is the Purpose of Special Drawing Rights?

The International Monetary Fund (IMF) first implemented special drawing rights (SDRs) in 1969. SDRs were created primarily to supplement a country's existing foreign currency reserves at the time. Foreign currency reserves were depleted due to a scarcity of US dollars and gold, the most critical assets.

During the Bretton Woods fixed exchange rate regime, the SDR was equal to one US dollar (or 0.888671 grams of gold). After this arrangement collapsed in 1973, a basket of major currencies came to define the SDR. After 1973, the SDRs' original function as a supplementary reserve to foreign currency reserves was diminished.

Countries may choose special drawing privileges when the US currency is weak or less appealing. The International Monetary Fund (IMF) uses SDRs for internal accounting purposes. The IMF maintains a reserve basket of crucial currencies to combat currency fluctuations.

Special Drawing Rights: What Do They Entail?

The International Monetary Fund (IMF) allocates SDRs to each member country. It is determined by each country's quota in the International Monetary Fund (IMF). The relative economic standing in the global economy is a significant factor in determining an IMF quota. It is the country's financial commitment to the IMF and its sway in IMF decisions that the quota represents.

It's up to the International Monetary Fund (IMF) to decide if the global economy needs a new distribution of SDRs every five years. During the financial crisis of 2009, the IMF allocated the most SDRs since it was established. Members of the International Monetary Fund (IMF) can exchange SDRs for freely useable currencies through mutually agreed upon trading arrangements.

IMF-facilitated agreements allow countries to alter their reserves or satisfy their balance of payments demands. SDRs are not a currency or a claim on the IMF, and it is vital to know this. SDRs are a possible claim by IMF members on freely available currencies.

The Distribution of Special Drawing Rights (SDRs)

The country's quota share determines each country's part of the IMF's SDRs. The more quota shares a country has, the better off it is economically. While Afghanistan has just 323 shares, the United States has a total of 82,994.

This means that countries with higher voting power in the International Monetary Fund (IMF) have larger quota shares. Emerging markets and developing economies account for 42.2% of all SDRs. 3.2 percent of this total is designated for nations with a relatively low per capita income.

There are specific requirements in the IMF's Articles of Agreement that allow it to distribute SDRs to its members. The IMF's aim of "filling the long-term global requirement to augment current reserve assets" must be met for a broad allocation of SDRs to occur. SDR Department members with voting authority must approve the allocation with an 85.5 percent majority.

Special Drawing Rights (SDR) Requirements (SDRs)

In 2000, the SDR adopted the present set of standards for inclusion. According to the board, members or monetary unions with "the biggest export value over five years, and who have been determined by the IMF to be freely useable" are included in the SDR basket.

When a currency is considered "freely usable" by the IMF, this means that it is both "in reality extensively utilized to pay for foreign transactions" and "widely traded on the main exchange markets."

The "freely useable" currency is defined based on measures such as reserve holdings, international debt securities' currency denominations, and the volume of cross-border payments and trade finance transactions, "freely useable" currency is defined.

Using Special Drawing Rights to Resolve Claims (SDRs)

Neither the SDR nor the IMF's assets are considered a claim on the SDR. Instead, it is a claim on the currencies of the IMF member states that are freely useable. According to IMF Articles of Agreement, a freely usable currency is extensively utilized in international transactions and regularly exchanged in foreign currency markets.

IMF members can trade their SDRs through voluntary swaps or by the IMF urging nations with more robust economies or more significant foreign currency reserves to purchase SDRs from the less-endowed members.

Special Drawing Rights Interest Rates (SDRs)

A country's borrowing costs from the IMF are calculated using the SDRs or the SDR interest rate. This interest rate is also used to pay members for their remunerated creditor roles at the IMF. In addition, member nations get interested in their SDR holdings, which are then charged to their SDR allocation.

Short-term interest rates on government debt instruments in the money markets of the SDR basket currencies are used to calculate the SDR, which is published every week. The floor for this calculation is five basis points. It's on the IMF's website.


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