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Forex Reserves are very important for a nation and hence can play a very
important part n determining the foreign dealing strength of a nation.
Currently Indias forex reserves stand at $351.48bill
India has seen an unprecedented fall in the value of its currency against the
widely used global currency US dollar in the last couple of months. Analysts,
experts, finance ministry, RBI, all are blaming high current account deficit
(CAD) for the rupee fall.
However, it will have to factor in the impact on inflation, money supply, fiscal
deficit and the RBI's balance sheet if recourse is taken for utilisation of
reserves for funding sectors like infrastructure, a major priority for the
country.
China, for instance, has used part of its forex reserves for recapitalising some
of its state-owned banks.
What is the composition of India's foreign exchange reserves and
who manages these reserves?
India's foreign exchange reserves comprise foreign currency assets, gold and
special drawing rights allocated to it by the International Monetary Fund
(IMF)in addition to the reserves it has parked with the fund.
Foreign exchange reserves are held and managed by the RBI. Some
countries use external managers to handle their reserves. The composition of
the reserves is not disclosed to the public.
However, the foreign currency assets are invested mainly in instruments
abroad which have the highest credit rating and which do not pose any credit
risk.
These include sovereign bonds, treasury bills and short-term deposits in toprated global banks besides cash accounts. The country's central bank is also
reckoned to have invested in top-rated bonds of entities like Fannie Mae in
the US.
Is RBI mandated by law to invest these foreign currency assets?
A good part of it is denominated in the international reserve currency - the
US dollar given the composition of trade, the euro, pound sterling and the
Japanese yen.
The RBI Act provides for investment in deposits with global central banks and
the Bank for International Settlements, deposits of international commercial
banks, sovereign bonds or sovereign guaranteed debt which has a residual
maturity not exceeding 10 years and other instruments approved by the
central board of the RBI.
The holdings of gold are also held abroad in the form of short-term interest
bearing gold deposits for instance with Bank of England and BIS.
What are the considerations on which the foreign currency assets of
the RBI are deployed ?
The deployment of assets is based on safety, liquidity and returns. Earlier,
safety was the paramount concern. But gradually, there has been a focus on
returns also. The aim is to maximise returns without compromising on safety
or liquidity.
GOLD RESERVES
Gold Reserves in India remained unchanged at 557.74 Tonnes in the third
quarter of 2015 from 557.74 Tonnes in the second quarter of 2015. Gold
Reserves in India averaged 433.94 Tonnes from 2000 until 2015, reaching an
all time high of 557.74 Tonnes in the fourth quarter of 2009 and a record low
of 357.75 Tonnes in the second quarter of 2000. Gold Reserves in India is
reported by the World Gold Council.
The year 1991 is considered a landmark year for the Indian economy. The
country went through a severe crisis, which forced the government and
regulators to change a wide array of policies. Back in the days, India used to
pay for its imports from Reserve Bank of Indias (RBI) reserve of foreign
currency. Its exports were barely enough. By 1991, its imports ballooned so
much that Indias forex reserves touch an all-time low, enough to pay for
only three-weeks of imports. The country had to airlift gold and pledge it with
IMF for a loan in 1991. This balance of payment crisis is perhaps the best
example of why the RBIs foreign exchange and gold reserves matter.
Today, India does not face this problem. Yet, the RBIs forex and gold
reserves continue to matter, especially since India is a developing and
import-depended country. Here are four reasons why:
1. What are reserves: Most countries including India purchase gold and
foreign currency regularly. This is kept aside as reserves. It could comprise of
a combination of assets which include gold, foreign exchange (currency)
holdings, investments, trade surplus and others. These can be used in the
event of a financial crisis and to weather crises in the markets. Reserves,
thus, bring about financial as well as political stability. Currencies like US
dollar and Euros are used in nearly all international transactions. They have
thus acquired the status of reserve currencies. A country, which holds a great
forex reserve, could have a big say in world politics.
2. Gold reserves: You may have seen movies where the women in the
house sell off their gold and jewellery when the family goes bankrupt. This
principal of using family silver to weather a financial crisis also applies for a
country, as was demonstrated in the 1991 balance of payment crisis. India
used its gold reserves to avoid a default back then. Since then, the RBI has
accumulated gold worth $20 billion, as of September 2014.
3. RBIs forex reserves: Foreign exchange reserves are acquired through
trade, which is selling of goods and services for currency. Since 1991, RBI has
steadily accumulated foreign currency assets as reserves. Today, its forex
bounty is worth around $290 billion according to recent RBI data. These
reserves help to maintain stability in the currency exchange rates, to combat
financial market turbulence, to overcome balance of payments issues, to
meet import bills, assist in improve the countrys credit ratings, influence
interest rates and are also used for several other concerns. Though most
forex reserves are held in US dollars, currencies like Euro and Pound are also
part of the foreign currency asset portfolio.
4. Dollar-gold relationship: While holding a good amount of gold and
forex reserves gives strength to the countrys economy, it has to be in a
balanced proportion. This is the more you buy the dollar, the stronger it gets.
This automatically means the Rupee will be valued lower. Similarly, the more
you buy gold, the higher will be its price. A strong dollar is known to reduce
the prices of gold, while rising gold prices weaken the dollar. So there has to
be balance in the RBIs buying pattern. Otherwise, the overall value of its
reserves may get devalued substantially under market fluctuations.
Gold lying in the locker appreciates in value if gold price goes up but it
doesn't pay you a regular interest or dividend. On the contrary, you incur
carrying costs on it (bank locker charges). The monetisation scheme will
allow you to earn some regular interest on your gold and save you carrying
costs as well. It is a gold savings account which will earn interest for the gold
that you deposit in it. Your gold can be deposited in any physical form
jewellery, coins or bars. This gold will then earn interest based on gold
weight and also the appreciation of the metal value. You get back your gold
in the equivalent of 995 fineness gold or Indian rupees as you desire (the
option to be exercised at the time of deposit)
BENEFITS OF OPENNING AN ACCOUNT
There are many positives to depositing under the Gold Monetisation scheme:
The gold monetisation scheme earns interest for your gold jewellery
lying in your locker. Broken jewellery or jewellery that you don't want
to wear can earn interest for you in gold.
Coins and bars can earn interest apart from the appreciation of value
Your gold will be securely maintained by the bank.
Redemption is possible in physical gold or rupees hence giving your
gold purchase further earning opportunity.
Earnings are exempt from capital gains tax, wealth tax and income tax.
There will be no capital gains tax on the appreciation in the value of
gold deposited, or on the interest you make from it
TERMS INVOLVED
The designated banks will accept gold deposits under the Short Term
(1-3 years) Bank Deposit as well as Medium (5-7 years) and Long (1215 years) Term Government Deposit Schemes.
It is important to check your gold's purity and thankfully that can now be
done through Collection and Purity Testing Centres. You can take your gold in
any form to these centres and they will assess the gold in front of you and
provide you with a certificate on purity and gold content, once you decide to
deposit the gold in one of the deposit schemes.