Why is India’s Foreign Exchange Reserves Declining?

Declining Forex

India’s foreign exchange reserves have registered the biggest decline in the past 11 months! Let’s find out more about it.

The Reserve Bank of India has reported a decrease in foreign exchange reserves for the second consecutive week, resulting in a decline of $8.319 billion as of 10th February 2023. 

What’s Happening?

Foreign exchange reserves are important for a country to function. But recently, there has been a decline in India’s foreign exchange reserves. According to the RBI, the country’s foreign exchange reserves dropped to $566.94 billion. This is a decline of $8.319 billion as of 10th February 2023. It was the second consecutive week when the forex reserves registered a decline recording the biggest drop in the past 11 months.

But, Why are Forex Reserves That Important?

Foreign exchange reserves are the amount of money or other assets kept in any country’s central bank so that it can pay its liabilities when needed. Foreign exchange reserves are maintained in one or more currencies, mainly US dollars.

If we look at India, our forex reserves include Foreign Currency Assets (FCAs), gold reserves, Special Drawing Rights (SDRs) and reserve tranches with the International Monetary Fund (IMF).

Reason Behind Forex Reserves Decline

In October 2021, foreign exchange reserves reached a high level of $645 billion. This was followed by a fall in reserves as the central bank used currency reserves to hedge against a fall in the rupee’s exchange rate amid pressure from global developments.

Foreign Currency Assets (FCAs) are the largest component of foreign exchange reserves. It is expressed in terms of dollars. According to the central bank’s weekly data, FCA declined by $7.108 billion to $500.587 billion in the week under review.

The Reserve Bank said that the decline in gold reserves also continued. The value of gold reserves decreased by $919 million in the week to $42.862 billion.

Importance of Foreign Exchange Reserves

Whenever a country makes a purchase (imports goods), they have to make payments in US dollars. Hence, the USD is called the global currency, and our local currency values are derived in comparison to the USD. 

When the US dollar strengthens, a country has to spend more local currency as imports become expensive and vice versa. 

Hence, when the US dollar strengthens, and our local currency feels the heat, the RBI takes various measures to maintain our currency’s value, including selling the US dollar in the open market. 

If a country has fewer Forex reserves, it can easily end up like Sri Lanka and Pakistan. This is also the reason why a country must have a comfortable amount of foreign reserves in hand.

In short, Foreign exchange reserves help the government and the RBI to meet obligations on time.

What’s in it for Investors?

According to the Economic Times, the Reserve Bank of India governor recently specified that India’s foreign exchange reserves are comfortable because they increased from $524 billion on October 21, 2022, to $572 billion by January 13, 2023. Also, India’s external debt ratio is low by international standards. 

Indian currency continues to perform ‘impressive’ amid volatility. That’s why the situation is expected to be normal in the future.

That’s it for today. We hope you found this article interesting. Don’t forget to share it with your friends.

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