21st October 2020

Confidant Classes

A Premier Judicial Service Coaching

India’s foreign exchange reserves

India’s foreign exchange reserves crossed the $ 500 billion mark for the first time in the week ending June 5, 2020. Unlike 1991, when India had to compromise its gold reserves to avoid an important financial crisis, the country can now depend on growing reserve currencies to deal with any crisis on the economic front.

While it increased $ 8.2 billion in the week ending June 5, 2020, it’s important to note that since the announcement of the lockdown in March, it has increased $ 31.8 billion.

With a record $ 501.7 billion as of June 5, 2020, India has come a long way from its $ 5.8 billion foreign exchange reserves in March 1991.

What are foreign Exchange reserves?

Foreign exchange reserves are external assets in the form of gold, SDRs (IMF special drawing rights) and foreign currency assets (capital inflows on capital markets, FDI and external commercial loans) accumulated by the India and controlled by the Reserve Bank of India.

The International Monetary Fund says official foreign exchange reserves are maintained in support of a number of objectives, such as supporting and maintaining confidence in monetary and exchange management policies, including the ability to intervene to support the national currency or the Syndicate.

It will also limit external vulnerability by maintaining the liquidity of the foreign currency to absorb shocks in times of crisis or when access to loans is restricted.

The main reason for the increase in foreign exchange reserves is the increase in investment in foreign portfolio investors in Indian stocks and foreign direct investment (FDI).

Foreign investors had acquired stakes in various Indian companies in the past two months. According to data released by RBI, while FDI inflows were $ 4 billion in March, they were $ 2.1 billion in April.

After removing Rs 60 billion rupees from each of the debt and equity segments in March, foreign portfolio investments (REITs), which expect a change in the economy later this fiscal year, are now returned to Indian markets and bought stocks for more than $ 2.75 billion in the first week of June.

The inflows of foreign currency will further increase and cross $ 500 billion while the subsidiary of Reliance Industries, Jio Platforms, has experienced a series of foreign investments totaling Rs 97,000 crore.

On the other hand, the fall in crude oil prices has reduced the import bill for oil, saving precious foreign exchange.

Similarly, international remittances and international travel fell sharply, up 61% in April from $ 12.87 billion. The months of May and June are expected to show a larger drop in dollar outflows.

The sharp increase in reserves seen over the past nine months began with the announcement by Minister of Finance Nirmala Sitharaman to cut corporate tax rates on September 20. Since then, foreign exchange reserves have increased by $ 73 billion.

What are the significances of rising forex reserves?

  • The rise in foreign exchange reserves provides much comfort to the government and the Reserve Bank of India in dealing with India’s internal and external financial problems at a time when economic growth is expected to contract by 1, 5% in 2020 -2021.
  • It is a great mattress in an economic crisis and enough to cover the country’s import bill for a year.
  • The increase in reserves also helped the rupee to strengthen against the dollar.
  • The ratio of foreign exchange reserves to GDP is around 15%.
  • The reserves will provide markets with a level of confidence that a country can meet its external obligations, demonstrate the support of the national currency to external assets, help the government meet its needs for foreign exchange and external debt obligations, and maintain a reserve for national disasters or emergencies.

“So far (until May 15), India’s foreign exchange reserves have increased by 9.2 billion US dollars in 2020-21 they will reach US $ 487.0 billion, the equivalent of 12 months of imports. “

In his monetary policy statement of May 22, RBI Governor Shaktikanta Das said.

 

What does the RBI do with the forex reserves?

  • The Reserve Bank operates as depositary and administrator of foreign exchange reserves and operates within the framework of the general policy agreed with the government.
  • The RBI allocates dollars for specific purposes. For example, under the remittance liberalization program, people can pay up to $ 250,000 a year.
  • The RBI uses its forex kitty for the orderly movement of the rupee. He sells the dollar when the rupee weakens and buys the dollar when the rupee strengthens.
  • Recently, the RBI bought dollars from the market to consolidate foreign exchange reserves.
  • When the RBI deletes dollars, it releases an equal amount in rupees. This excess liquidity is sterilized through the issuance of bonds and securities and the operations of LAF.

Where are India’s forex reserves kept?

The RBI Act – 1934 provides the general legal framework for the deployment of reserves in various foreign currency and gold assets in the general parameters of currencies, instruments, issuers and counterparties.

Up to 64% of foreign exchange reserves are held in treasury bills of foreign countries, mainly the United States, 28% are deposited with foreign central banks and 7.4% are also deposited with commercial banks at stranger, according to RBI dates.

India also held 653.01 tonnes of gold in March 2020, of which 360.71 tonnes abroad were held by the Bank of England and the Bank for International Settlements, while the rest of the gold remained in the country.

In value terms (USD), the share of gold in total foreign exchange reserves increased from around 6.14% at the end of September 2019 to around 6.40% at the end of March 2020.

Maintaining forex reserves?

The performance of India’s foreign exchange reserves at central banks and foreign commercial banks is negligible. Although the RBI has not published the return on investment in foreign currency, analysts estimate that it could be around 1% or even less given the fall in interest rates in the United States and in the euro region.

Some circles have requested that foreign exchange reserves be used for infrastructure development in the country. However, the RBI had opposed the plan.

Several analysts recommend a greater weighting of the performance of assets in foreign currencies than of liquidity, thus reducing the potential net costs of holding reserves.

Another problem is the high proportion of volatile flows (portfolio flow and short-term debt) to reserves, which is around 80%. This money can come out at a rapid rate.

 

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