Decline in gold & curerncy assets pull forex reserves off record high

Decline in gold & curerncy assets pull forex reserves off record high

Subject : Economy

Context : Sliding from the life-time high recorded a week ago, the forex reserves declined by $4.148 billion to reach $603.933 billion for the week ended June 18 on account of a fall in gold and currency assets, as per data from the Reserve Bank of India (RBI).

Concept :

• Sustained foreign direct investment (FDI) and foreign portfolio investor (FPI) inflows had led to the gains in foreign exchange — or forex — reserves in the past few weeks.
• In the reporting week ended June 18, the FCA — a major component of the overall reserves — declined by $1.918 billion to $561.540 billion for the reporting week, as per data released by by the Reserve Bank on Friday.

Foreign Exchange Reserves:

• Foreign exchange reserves are assets held on reserve by a central bank in foreign currencies, which can include bonds, treasury bills and other government securities.
• It needs to be noted that most foreign exchange reserves are held in U.S. dollars.
• These assets serve many purposes but are most significantly held to ensure that the central bank has backup funds if the national currency rapidly devalues or becomes altogether insolvent.

India’s Forex Reserves include:

• Foreign Currency Assets
• Gold
• Special Drawing Rights
• Reserve position with the International Monetary Fund (IMF)

Foreign Currency Assets

• FCA are assets that are valued based on a currency other than the country’s own currency.
• FCA is the largest component of the forex reserve. It is expressed in dollar terms.
• FCA includes the effect of appreciation or depreciation of non-US units like the euro, pound and yen held in the foreign exchange reserves.
• Currency appreciation refers to the increase in value of one currency relative to another in the forex markets.
• Currency depreciation is a fall in the value of a currency in a floating exchange rate system.
• In a floating exchange rate system, market forces (based on demand and supply of a currency) determine the value of a currency.

Special Drawing Rights

• The SDR is an international reserve asset, created by the International Monetary Fund (IMF) in 1969 to supplement its member countries’ official reserves.
• The SDR is neither a currency nor a claim on the IMF. Rather, it is a potential claim on the freely usable currencies of IMF members. SDRs can be exchanged for these currencies.
• The value of the SDR is calculated from a weighted basket of major currencies, including the U.S. dollar, the euro, Japanese yen, Chinese yuan, and British pound.
• The interest rate on SDRs or SDRi is the interest paid to members on their SDR holdings.

Reserve Position in the International Monetary Fund

• A reserve tranche position implies a portion of the required quota of currency each member country must provide to the International Monetary Fund (IMF) that can be utilized for its own purposes.
• The reserve tranche is basically an emergency account that IMF members can access at any time without agreeing to conditions or paying a service fee.