Significance Of India’s Forex Reserves Of $500 Billion

Table of Contents

Why are forex reserves rising despite the slowdown in the economy?

The major reason for the rise in forex reserves is the rise in investment in foreign portfolio investors in Indian stocks and foreign direct investments (FDIs).
Foreign investors had acquired stakes in several Indian companies in the last two months.
While the FDI inflow stood at $4 billion in March, it amounted to $2.1 billion in April.
FPI’s have bought stocks worth over $2.75 billion in the first week of June.
Reliance Industries subsidiary, Jio Platforms, has witnessed a series of foreign investments totaling Rs 97,000 crore.
On the other hand, the fall in crude oil prices has brought down the oil import bill, saving precious foreign exchange.
Similarly, foreign travels have fallen steeply leading to decline in dollar outflows.
Since the cut in corporate tax rates on September 20,
The forex reserves have grown by $73 billion.

The rising forex reserves give a lot of comfort to the government and the Reserve Bank of India in managing
India’s external and internal financial issues at a time when the economic growth is set to contract in 2020-21.
The foreign exchange reserves to GDP ratio is around 15%.
It’s a big cushion in the event of any crisis on the economic front and enough to cover the import bill of the country for a year.
Reserves will provide a level of confidence to markets that a country can meet its external obligations
The rising reserves have also helped the rupee to strengthen against the dollar.

The Reserve Bank functions as the custodian and manager of forex reserves, and operates within the overall policy framework agreed upon with the government.
The RBI allocates the dollars for specific purposes.
For example, under the Liberalised Remittances Scheme, individuals are allowed to remit up to $250,000 every year.
The RBI uses its forex kitty for the orderly movement of the rupee.
It sells the dollar when the rupee weakens and buys the dollar when the rupee strengthens.

As much as 64% of the foreign currency reserves are held in securities like Treasury bills of foreign countries, mainly the US.
28% is deposited in foreign central banks and 7.4% is also deposited in commercial banks abroad, according to the RBI data.
India also held 653.01 tonnes of gold as of March 2020, with 360.71 tonnes being held overseas in safe custody with the Bank of England and the Bank for International Settlements.
While the remaining gold is held domestically.

The return on India’s forex reserves kept in foreign central banks and commercial banks is negligible, around 1% or even less.
Several analysts argue for giving greater weightage to return on forex assets than on liquidity.