“It is not the money that matters, its how you use it that determines its true value.”
Foreign exchange reserves are cash and gold held by the Reserve Bank of India to meet import payments, control the foreign exchange rate of the Indian Rupee, and maintain confidence in financial markets. Reserves are held in United States dollar and the Euro. Reserves include foreign banknotes, foreign bank deposits, foreign treasury bills, short and long-term foreign government securities, and gold reserves, special drawing rights (SDRs), and International Monetary Fund (IMF) reserve positions. Reserves determine the prosperity of the nation.
Normally, interest is not received on foreign cash reserves, nor on gold holdings, but RBI earns interest on government securities and makes a profit from a depreciation of the foreign currency or incurs a loss on its appreciation. Nearly Rs.100,000 crore worth of dividend paid by RBI to the Central Government this year came out of these gains.
In RBI accounts, foreign exchange reserves are called reserve assets in the capital account of the balance of payments. The reserve assets can be classified as gold bullion, unallocated gold accounts, special drawing rights, currency, reserve position in the IMF, interbank position, other transferable deposits, other deposits, debt securities, loans, equity (listed and unlisted), investment fund shares and financial derivatives, such as forward contracts and options.RBI Balance Sheet shows foreign exchange reserves as assets, along with domestic credit.
As on 30.09.2021, India holds $ 644 billion reserves and ranks fourth in the world after China ( $ 3408 billion), Japan ( $ 1424 billion) and Switzerland ( 1088 billion). The remaining six top countries are, Russia $ 612 billion, Taiwan $544 billion, Hongkong $ 497 billion, South Korea $ 464 billion, Saudi Arabia $ 441 billion and Singapore $ 418 billion.
Ironically, Germany, France, UK, Italy, Canada, UAE and the USA are much below the top ten countries in holding Forex Reserves despite huge exports! Are advanced European countries and the USA poorer than India or they deploy, recycle and harness Forex, better, in the growth of nations which has taken their economy and standards of living to dizzy heights. Is India’s forex lying lazy in RBI vaults?
The main function of a country’s central bank is reserve management, to meet five national objectives, which are :
1. Maintaining confidence in India’s monetary and exchange rate management policies.
2. Limiting external vulnerability to shocks during times of crisis and providing a level of confidence to markets.
3. Backing the domestic currency,
4. Assisting the government to meet its foreign exchange needs and external debt obligations, and
5. Maintaining a reserve for potential national disasters or emergencies.
Reserves allow RBI to purchase INR, which issued in excess is considered a liability since RBI prints the money or fiat currency as IOUs. Thus, the quantity of foreign exchange reserves can check inflation and reduce the cost of living for citizens. In the long term, the monetary policy has to be adjusted in order to be compatible with that of currency management. Without that, the country will experience outflows or inflows of capital. Let us harness Forex Reserves in day-to-day use rather than hoarding in vaults. Wisely said, Don’t go broke while trying to look rich.
RBI has to strictly monitor the exchange rate because there is an intimate relation between exchange rate policy, reserves accumulation and monetary policy. Foreign exchange operations affect the money supply and cause an expansion or contraction in the amount of domestic currency in circulation.RBI can issue more of INR and purchase foreign currency, which will increase the sum of foreign reserves. Since the domestic money supply is increasing (money is being ‘printed’), this may provoke domestic inflation. For a currency in very high and rising demand, foreign exchange reserves get accumulated. The higher the reserves, the higher is the capacity of the central bank to smooth the volatility of the Balance of Payments in the long term.
There are costs in maintaining large currency reserves. Fluctuations in exchange rates result in gains and losses in the value of reserves. In addition, the purchasing power of fiat money decreases constantly due to devaluation through inflation. Therefore, a central bank must continually increase the amount of its reserves to maintain the same power to manage exchange rates.
Several calculations have been attempted to measure the cost of reserves. The traditional one is the spread between government debt and the yield on reserves. This spread looks worrisome as India is losing hard cash on its Forex Reserves. It is an economic reality that adequate Forex Resrves have to be retained by RBI.
Reserves that are above the adequacy ratio can be rolled out of lazy vaults and invested in the development of the Indian economy as follows:
1. RBI to establish a talent bank to invest a critical mass of forex in the international market to gain arbitrage.
2. Forex funds to be lent to Banks in India to be provided as FCNR(B) loans to Corporates at competitive pricing.
3. Competitive Forex loans to Banks and Corporates in friendly countries to boost the income of RBI and enhance India’s image.
4. Cheap forex loans to Indian corporates shall enhance their quality and competitiveness in the world market and more exports would accrue more forex and enhance Reserves of RBI further.
5. Carving competitive forex debt products for MSME Units will curtail the ballooning NPAs gasping due to high finance costs.
RBI has worked imaginatively to create the forex corpus and should loosen its tight grip by recycling the funds through Banks and Corporates to optimise funding costs. The Regulator need not worry about losing Reserves as they multiply in a performing economy built out of positive perceptions about vibrant and a pull nation, a status India proudly enjoys through the hard work of its toiling masses.
Rightly said, “True care is not preventing bad things to happen, it is preventing things from happening in the first place through imaginative mitigation.”
About the author
Mr. Hargovind Sachdev is an Ex-Banker, GM(Retd) of State Bank of India. Has over 39 years of experience in banking, having occupied senior positions in UCO Bank, United Bank of India, State Bank of Patiala, State Bank of Travancore & State Bank of India where he headed the Central European Credit Desk at Frankfurt, Germany from 2006 to 2011 covering 15 countries of Central Europe. Has undergone International Banking Training from Asian Institute of Management, Manila, the Philippines in the Year 2003 and a Multi-currency lending-technique training at the Euro Money Institute, London in 2009.
He has specialisation in Credit, Foreign Exchange, Vigilance, Monitoring & appraisal of Corporate Loans, MSME Credit, Gold Loans, Agricultural Loans & NRI Business Management in assets & liabilities. As a Forensic Auditor, he has conducted various Transaction Audits allotted by Banks.
He was felicitated by the Central Vigilance Commissioner, Sh. C.V Chowdhry for winning first prize for best article on Preventive Vigilance in 2015. He is also an accomplished Public Speaker having conducted multiple Motivational Seminars for institutions like ONGC, the National Housing Bank & the Bank of Baroda. He is an Independent Director & consultant to various big entities in the corporate sector at present.
