Recovery in India’s forex reserves

  • July 26, 2023
  • Posted by: OptimizeIAS Team
  • Category: DPN Topics
No Comments

 

 

Recovery in India’s forex reserves

Subject :Economy

Section: External Sector

In News: India’s forex reserves breach $600 billion-mark, hover around 15-month high.

Key Points:

  • India’s forex reserves are seeing a significant jump owing to various factors, definitively reversing the downtrend that started in March 2022, when dollar appreciated after the US Fed hiked rates and India’s balance of payment (BoP) saw lower net capital inflows.
  • This trend reversed with the dollar index peaking in October 2022 as expectations of further Fed rate hikes waned.
  • Forex reserves jumped this year primarily due to revaluation gains as the dollar weakened and capital flows rose. Also, oil imports from Russia are not settled in dollar, which has also added reserves.
  • India stands fourth among countries with the highest forex reserves. China, Japan and Switzerland are the top three, respectively.

What explains India’s forex reserves? 

    • Most countries, barring India, run large and persistent current account surpluses since they have a competitive exports market.
    • India, Brazil, and the US have built reserves through capital flows instead of huge current account surplus.

How are forex reserves measured?

  • The RBI’s forex reserves refer to the assets the central bank holds to provide import cover and protect against external shocks. It has four components:
  1. Foreign currency assets (FCA)
  2. Gold,
  3. Special Drawing Rights and
  4. Reserve position in the IMF.
  • RBI revalues these assets every week. Forex reserves are influenced by movements in exchange rates and gold prices. A depreciation of the US dollar or higher gold prices causes valuation gains. A strong dollar or fall in gold prices brings down the value of the non-dollar portion of the reserves.

Is this level of forex reserves sustainable?

  • Rate hikes in the US trigger an inflow of foreign investments to the US treasury and, simultaneously, an outflow of capital from India.
  • The US Fed has hiked rates by 75 basis points so far this year. Expectations are that the Fed may deliver a final rate hike of 25 basis points when it meets this week. This could increase capital outflows from emerging markets such as India.
  • Also, there is a significant improvement in the Balance of Payment (BoP) with the current account deficit now projected at less than 2% of GDP.
  • There is also a resumption in equity capital flows with India continuing to attract maximum flows among emerging market peers.
economy Recovery in India’s forex reserves