Explained: Forex reserves at all-time high — why did this happen, and what does it mean for India’s economy?

News: As per the Reserve Bank of India (RBI) data, India’s foreign exchange (forex) reserves has touched a record high of USD 541.431 billion in the week ended 28th August 2020.

Facts:

• Reasons for High Foreign Reserves:
  • Investment: Rise in investment by foreign portfolio investors and increased foreign direct investments(FDIs).
  • Fall in Crude Oil Prices: Fall in crude oil prices has brought down the oil import bill, saving precious foreign exchange. Similarly, overseas remittances and foreign travels have also fallen steeply.

Additional Facts:

• Foreign exchange reserves: These are assets denominated in a foreign currency that are held on reserve by a central bank.These may include foreign currencies, bonds, treasury bills and other government securities.
• Components of Foreign exchange reserves: The Foreign exchange reserves of India consists of four categories which are: Gold , SDRs (special drawing rights of IMF), Foreign currency assets (capital inflows to the capital markets, Foreign Direct Investment and external commercial borrowings) and Reserve Position with IMF.
• Forex Reserves Storage: The RBI Act,1934 provides a legal framework for deployment of reserves in different foreign currency assets and gold within the broad parameters of currencies, instruments and issuers.
• Significance of Forex Reserves:
  • Comfortable Position to Government: The rising forex reserves give comfort to the government and the RBI in managing India’s external and internal financial issues at a time of major contraction in economic growth.
  • Managing BoP Crisis: It serves as a cushion in the event of a Balance of Payment (BoP) crisis on the economic front.It is enough to cover the import bill of the country for a year.
  • External Debt Obligations: Assist the government in meeting its foreign exchange needs and external debt obligations.
  • Strengthening of Rupee: The rising reserves have helped the rupee to strengthen against the dollar.The foreign exchange reserves to GDP ratio is around 15 per cent.
  • Confidence in Market: Reserves will provide a level of confidence to markets and investors that a country can meet its external obligations.