Why do central banks intervene in the foreign exchange market?

Central banks, especially those in developing countries, intervene in the foreign exchange market in order to build reserves for themselves or provide them to the country's banks. Their aim is often to stabilize the exchange rate. Foreign exchange intervention is a monetary policy tool.

What is foreign exchange intervention?

Foreign exchange intervention is a monetary policy tool. It involves central banks intervening in the foreign exchange market to affect—often, to stabilize—a currency rate. Destabilizing effects on currencies can come from market and non-market forces. Currency stabilization may require short-term or long-term interventions.

Should a central bank sell foreign exchange reserves?

For example, should rapid capital outflows cripple crucial funding markets and cause a sharp drop in the exchange rate, a central bank can sell foreign exchange reserves, or lend them out, to stabilize markets and safeguard financial stability. Foreign exchange intervention, however, can come with costs and involve important trade-offs.