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Why RBI may slow down on its dollar-buying frenzy

The News International Team

The Reserve Bank of India (RBI), which has been on a dollar-buying spree over the past six months, is likely to slow down as the country’s forex reserve touched record levels, feel analysts at Nomura.     

The RBI’s forex kitty rose by about USD 26 billion (or 8.8 percent) between end-February to end-July, while from the end-February to end-June, the RBI’s FX forward book also rose by a net USD 31.7 billion (FX forward book at –USD 0.2 billion in June).

RBI’s dollar reserves swelled to USD 317.81 billion, closer to its record high at July-end. In July-August 2013, total reserves had fallen to USD 243 billion as RBI sold dollars to shore up the falling rupee.

The central bank has been buying dollars in the spot market and swapping it in the forward market in order to build a buffer against potential capital outflows, especially with respect to risks from the US Fed’s exit from unconventional monetary policy.

According to a Nomura report, this dollar purchase is likely to slow down as it feels the RBI is more comfortable with its current FX reserve buffer and, while it may still have a bias to build, it is unlikely to be as aggressive as it has been in recent months.

Nomura says this view is supported by: 1) changing perceptions from policymakers on the level of FX reserves and signs of reduced USD purchases; 2) significant coverage of potential Fed exit-related outflows; 3) a reduced vulnerability to market positioning following the 2013 INR sell-off; 4) the improving current account position and an unlikely near-term reduction in import restrictions and; 5) a strengthening global and local economy that should help limit FX volatility.

Also read: Why the rupee is unlikely to fall sharply further

Comments by Governor Raghuram Rajan following the 5 August policy meeting also highlight that India’s FX reserves are in a much healthier position now. On 11 August, he said that India was likely to be tested by capital outflows as global rates pick up, although he believes India has “done enough” in terms of strengthening its macroeconomic fundamentals and building a reserves buffer.

On 21 January, the Urjit Patel Committee report (set up by RBI Governor) stressed that the RBI should build “an adequate level of foreign exchange reserves” as a buffer against potential outflows. The adequacy was said to be based on existing metrics as well as intervention requirements set by past experience with external shocks.

The Governor’s stance was also highlighted in an interview on 30 January in which he mentioned that emerging markets need to take measures to cope with outflows stemming from the unwind of unconventional central bank policies.

“Considering the significant FX reserve accumulation by end-July – FX reserves covered 8x imports (from 6.9x in July 2013) and 3.3x short-term debt (2.6 times in July 2013) – we believe the RBI may have largely reached its objective,” the Nomura report said.

(Posted By Sagar Salvi)

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