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Why is there a fall in India’s foreign exchange reserves?

GS Paper 3:

Topics Covered: Indian Economy and issues related to planning.

 

Context:

India’s forex reserves have dropped below $600 billion, plunging by about $45 billion since September 3, 2021, when forex reserves stood at an all-time high of $642 billion.

 

Reasons behind drop in India’s forex reserves:

  • The drop is because of a fall in the dollar value of assets held as reserves by the RBI.
  • Appreciation of the US dollar: The demand for dollars remained high as the Russia-Ukraine war led to a spike in oil and commodity prices.
  • Capital outflows by foreign portfolio investors (FPIs): FPIs pulled out $21.43 billion since September 2021 as the US Federal Reserve started monetary policy tightening and interest rate hikes.
  • Effect of gold prices: Decline in gold prices has also played a part in the decline in foreign exchange reserves.

 

How will this affect the rupee?

Indian rupee fell to an all-time low against the US dollar, breaking through the 77 rupees to a dollar threshold and trading at 77.63 on Thursday (12th May).

  • If the rupee continues to fall, the Reserve Bank of India will be forced to interfere in the forex market by selling dollars from its foreign exchange reserves.
  • If the RBI prioritises maintaining the amount of foreign exchange reserves, the rupee could depreciate.

 

Current Affairs

 

Learn about forex reserves and its importance:

  • Reference: read this.

 

InstaLinks:

Prelims Link:

  1. Components of forex reserves?
  2. Who handles it?
  3. Does RBI earn any returns on them?
  4. Trends in forex reserves over the last decade.

Mains Link:

Discuss how rising forex reserves are beneficial for India’s economy.

 

Q.5) Which one of the following groups of items is included in India’s foreign-exchange reserves? (UPSC 2013).

 

(a) Foreign-currency assets, Special Drawing Rights (SDRs) and loans from foreign countries.

(b) Foreign-currency assets, gold holdings of the RBI and SDRs.

(c) Foreign-currency assets, loans from the World Bank and SDRs.

(d) Foreign-currency assets, gold holdings of the RBI and loans from the World Bank. 

Sources: the Hindu.