India’s foreign exchange reserves have recorded the highest jump in the last year to $531.08 billion. After 12 weeks of the downtrend, the forex reserves have surged by $6.56 billion for the week ending Oct 28, shows the latest data released by the Reserve Bank of India (RBI). The uptrend has been aided by various measures the RBI has taken including selling dollars of more than $118 billion to arrest the slide of the Indian Rupee.

The RBI has been taking measures for the past few months to maximize foreign inflows to augment the forex reserves. The central bank also had to sell dollars to stabilize the value of the Indian currency - which has fallen around 10 per cent against the greenback in this year alone – still better than many of its global peers.

In fact, India's forex reserves hit several lows in the past few months including dropping to their lowest levels since July 2020, as RBI burnt more than $118 billion in the rupee's defense.  

What’s aiding forex reserves – experts decode   

The primary factor in replenishing the forex reserve is due to an increase in foreign currency assets (FCA), as per the experts.

RBI has maintained these FCA in a number of currencies such as the Euro, Pound, Yen, and dollar. Change in the value of these currencies vis-à-vis the dollar hence leads to a change in the FCA. The appreciation in the value of these currencies leads to an increase in FCA and that’s what explains the last week’s growth, said Aditi Gupta, an economist at the Bank of Baroda.

Kunal Sodhani, Vice President at Shinhan Bank, a Global Trading Center concurred.

But more than the RBI selling dollar, it was the rise in the value of the gold that has helped the rise in forex reserves, according to many economists and forex analysts. 

“The rise does not seem due to buying by RBI but mainly due to the revaluation of reserves as GBP and Euro rose. The value of Gold also was higher,” said Anil Kumar Bhansali, Head Of Treasury at Finrex Treasury Advisors. 

 

Fears mount on low forex reserves

   

Forex reserves have garnered public scrutiny since the  Sri Lankan economic crisis and similar concerns were raised in India as it plummeted. India’s approach to reserve management, until the economic crisisthat happened in 1991 (that forced the government to introduce economic reforms) was more traditional, i.e., to maintain an appropriate level of import cover defined in terms of the number of months of imports equivalent to reserves. 

The Reserve Bank’s Annual Report 1990-91 stated that the import cover of reserves shrank to 3 weeks of imports by the end of December 1990, and the emphasis on import cover constituted the primary concern say, till 1993-94. 

Eminent economist Y.V Reddy, once mentioned, “The approach to reserve management, as part of exchange rate management, and indeed external sector policy underwent a paradigm shift with the adoption of the recommendations of the High-Level Committee on Balance of Payments. Now, whether a country has enough forex reserves or not is analyzed using Guidotti Rule. Forex analysts suggest that the current import cover of the country stands slightly lesser than 9 months. 

Should Indians worry?   

 

A vital indicator of the health of an economy, high forex reserves aid in building positive sentiment among investors in general. “It will also help boost investor sentiments and give RBI more breathing space to tackle the financial volatility,” added Bank of Baroda’s Gupta.  High forex reserve boosts the confidence of foreign investors to invest in India leading to a surge in foreign direct investment. With more investors investing in the Indian market, there are several employment opportunities created leading to a fall in unemployment. 

To this, Sugandha Sachdeva, VP, of Religare Broking added that high forex reserves insulate the economy from any major external challenges, thereby boosting the confidence of investors and attracting foreign portfolio flows. It will further enhance investments and boost the economic growth rate.

 

Rupee vs Dollar – What does data say?  

 

The Indian Rupee strengthened against the dollar as well as other Asian currencies after the DXY fell by more than 2 per cent in 4 days.

“If this continues then DXY may fall further and in turn, our FCA reserves will further rise and a falling DXY may definitely assist the rupee,” stated Sodhani. 

With the rise in the value of rupees against US dollars, economists suggest that the import cost of the country will go down as well leading to the cooling off inflation.