The jump in foreign exchange reserves may not be a positive sign

Amid the covid-19 pandemic, India’s foreign exchange (forex) reserves grew at a very rapid rate and hit a new high, in absolute terms, almost every week. What does this mean in the overall context of the Indian economy? Mint takes a look.

How fast have India’s foreign exchange reserves grown?

Between March 27 and August 14 this year, foreign exchange reserves increased by 12.6% to $535.25 billion. Interestingly, over a similar period in 2019, foreign exchange reserves only increased by 4.5% to $430.5 billion. Clearly, there has been a very rapid increase in the country’s foreign exchange reserves since late March, after the negative economic impact of the coronavirus pandemic was first felt. Some economic and political commentators have tried to pass off this increase as evidence of an improvement in the general state of the economy. But there is much more than meets the eye.

What does this jump in foreign exchange reserves mean?

A large part of foreign exchange reserves is used to pay for imports. Imports of goods between April and July fell 46.7% to $88.9 billion. Consequently, lesser reserves were used to pay for imports. This basically shows a collapse in economic activity since the start of the lockdown. India imports a large part of the crude oil it consumes. In the first four months of the current fiscal year, the country imported around 82% of the total oil it consumed. Nevertheless, total imports of petroleum and petroleum products fell 55.9% to $19.6 billion, a clear impact of the lockdown.

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So how has this impacted foreign exchange reserves?

While imports fell 46.7% in the first four months to $88.9 billion, exports of goods fell 30.3% to $74.9 billion. dollars. Thus, the trade deficit, the difference between imports and exports, decreased by 76.5% to 14 billion dollars against 59.4 billion dollars last year. This difference of $14 billion was more than compensated by other sources, which increased the reserves.

What other sources have helped the reserves?

In addition to the reduction in imports, other factors have pushed up foreign exchange reserves. As the price of gold rose, between March 27 and August 14, the value of gold held by the Reserve Bank of India (RBI) jumped 21.7% to $37.6 billion. dollars. Clearly, not only did individuals benefit from owning gold as it recovered, but RBI also gained. In addition to this, with people not leaving India for vacations, business trips or studies, the demand for foreign currency while traveling abroad has taken a hit.

Do foreign investors have a role to play?

Foreign Institutional Investors (FIIs) bring in money mainly in dollars. These dollars must be exchanged for rupees before they can be invested. Between April 1 and August 24, FIIs invested net 77,779 crores of Indian stocks. Assuming a dollar is worth 75, it means that FII brought more than $10 billion this year to India and it ended with RBI as foreign exchange reserves.

Vivek Kaul is the author of Bad Money.

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