Forex Reserves of India

Why in News?

The country's foreign exchange reserves declined from USD 4.255 billion to USD 580.299 billion, the fall in reserves was due to a decline in the Foreign Currency Assets (FCA).

What is the reason for forex rise/fall?

Rise/Fall in Forex is mainly attributed to appreciation or depreciation of currencies in the basket.
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.

Reserve Bank of India Act and the Foreign Exchange Management Act, 1999 set the legal provisions for governing the foreign exchange reserves.

Reserve Bank of India accumulates foreign currency reserves by purchasing from authorized dealers in open market operations. The foreign exchange reserves of India act as a cushion against rupee volatility once global interest rates start rising.

The Foreign exchange reserves of India consist of below four categories;

Foreign Currency Assets
Gold
Special Drawing Rights (SDRs)
Reserve Tranche Position

The reserves are managed by the Reserve Bank of India for the Indian government and the main component is foreign currency assets.

Where are India's forex reserves kept?

As much as 64 per cent of the foreign currency reserves is held in the securities like Treasury bills of foreign countries, mainly the US.
28 % is deposited in foreign central banks.
7.4 percent of forex is deposited in commercial banks abroad.
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.

Benefits of Forex

Foreign-exchange reserves act as the first line of defense for India in case of economic slowdown.
Foreign exchange reserves facilitate external trade and payment and promote orderly development and maintenance of foreign exchange market in India.
Supporting and maintaining confidence in the policies for monetary and exchange rate management including the capacity to intervene in support of the national or union currency.
It will also limit external vulnerability by maintaining foreign currency liquidity to absorb shocks during times of crisis or when access to borrowing is curtailed.

Note:

In 1980, India had foreign exchange reserves of over U$7 billion, more than double the level (U$2.55 billion) of what China had at that time
In 1990, forex reserve covered just 4.8 weeks of imports. Therefore its followed by Economic reforms of 90s, that is LPG policy.
In June 2020 India for the first time crossed the 500 Billion USD mark.
The total forex reserves touched an all-time high of 590 billion US$ in January 2021.

What's the significance of rising forex reserves?

The rising forex reserves help in managing India's external and internal financial issues at a time when the economic growth is set to contract in 2020-21.
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.
The rising reserves have also helped the rupee to strengthen against the dollar.
Reserves will provide a level of confidence to markets that a country can meet its external obligations, demonstrate the backing of domestic currency by external assets, assist the government in meeting its foreign exchange needs and external debt obligations and maintain a reserve for national disasters or emergencies.

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

Rise in investment in foreign portfolio investors in Indian stocks and foreign direct investments (FDIS).
Fall in crude oil prices has brought down the oil import bill saving the precious foreign exchage
Overseas remittances and foreign travels have fallen steeply - down by 61% .