FOREIGN EXCHANGE RESERVE
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FOREIGN EXCHANGE RESERVE
Subject: Economics
Context: The country’s foreign exchange reserves declined by $4.255 billion to $580.299 billion in the week ended March 5, according to RBI data.
Concept:
- 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.