For the first time, India’s foreign exchange reserves crossed $500 billion mark. As on 3rd July 2020, India’s forex reserves stood at an all-time high of $513.25 billion. It is interesting to note that the surge in forex reserves occurs at a time when the economy is passing through one of its lowest phases.
The savings in import bill, an increase in foreign direct investment, and the inflow of funds to the equity and debt market contributed to the increase in forex reserves. In FY20, of the total imports, Petroleum crude and products (POL) had a share of around 26 percent. Thus, the fall in crude prices benefited the country. If this trend continues India would be able to substantially reduce its oil import bill. It is unlikely that crude prices would witness a huge surge amid the excess supply and slowing demand in the crude market.
The FIIs/FPIs who were net sellers in March’20, April’20, and May’20 turned out to be net buyers in June’20 in the Indian stock market. For instance, net investment by FIIs/FPIs in equity and debt market stood at $ 3.1 billion in June’20. The loose monetary policy by the Central Banks across the globe supported the inflow of funds to the Indian market. As the global economy is dealing with the economic damage caused by Covid-19, it is expected that the loose monetary policy by the Central banks is here to stay for a longer time. Similarly, foreign investments in various Indian companies in the last few months also aided the surge in forex reserves. In May’20, direct investment to India stood at $ 2.5 billion, and in March’20 the number stood at $ 4.4 billion.
Forex reserves provide a cushion for the RBI and government by ensuring financial stability. However, it needs to be stressed that the Central Bank should be also cautious in dealing with it. Presently, the inflow of funds to the Indian market comes under the category of ‘hot money’. Any uncertainty or economic shock in the global market could reverse the flow of funds from the emerging markets, including India. In such a scenario, the pressure will be on the Indian rupee, and it would require active intervention by the RBI in the currency market. We have before us the case of ‘taper tantrum’ in 2013, where India was greatly impacted, and the country was even categorised as one of the ‘fragile five’ economies. Even though the rise in forex reserves provides us comfort, we should be cautious as well.