The great financial crisis has brought increased attention to the consequences of international
reserves holdings. In an era of high financial integration, we investigate the relationship between
the real exchange rate and international reserves using nonlinear regressions and panel threshold
regressions over 110 countries from 2001 to 2020. We capture the buffer effect of international
reserves is more pronounced in Europe and Central Asia above a threshold of 17%. Unlike previous
literature, our study contributes the level of financial institution development plays an essential
role in explaining the buffer effect of international reserves. Countries with a low development of
their financial institutions may use the international reserves as a shield to deal with the negative
consequences of terms-of-trade shocks on the real exchange rate. We also found that the buffer
effect is stronger in countries with intermediate levels of financial openness.