RBI Takes Its First Emergency Step By Providing Dollar Liquidity
The RBI will conduct U.S. dollar-rupee sell/buy swaps worth $2 billion on March 16.
The Reserve Bank of India will provide liquidity to the foreign exchange markets amid rising volatility and a surge in outflows from emerging markets, including India. The announcement came alongside an advanced release of India’s current account deficit data, which showed the lowest gap since 2016. Together, the two will help signal India’s comfortable external position.
The central bank will conduct U.S. dollar-rupee sell/buy swaps worth $2 billion on March 16, it said in a release on Thursday. This is being done after taking into account the increased demand for dollars due to outflows from the local equity and debt markets.
“On a review of current financial market conditions and taking into consideration the requirement of U.S. dollars in the market, it has been decided to undertake six-month U.S. dollar sell/buy swaps to provide liquidity to the foreign exchange market,” the RBI said.
The nervousness across global and local markets has led to fears of hoarding of dollar liquidity in many markets. By signalling its willingness to provide dollar liquidity, the RBI is trying to provide comfort to the markets.
Jayesh Mehta, country treasurer for Bank of America, said the RBI’s move was pre-emptive given the dislocation across global markets. While the move will suck out rupee liquidity from the markets, the RBI can always infuse liquidity using open market operations if needed, he said. Against a backdrop of risk aversion, corporates may find it difficult to get dollar funding lines and the dollar swaps will prove useful.
“The RBI is essentially trying to provide dollar liquidity which can be done either through the spot markets or though longer term swaps,” said Madhavi Arora, lead economist at Edelweiss Securities. The sales may slow the fall in the rupee but won’t change the direction of the currency, Arora said, adding an increase in dollar liquidity may be needed post the allocation of the SBI Cards initial public offering as foreign investors repatriate uninvested capital.
The central bank also assured that the current level of forex reserves at $487.24 billion remains “comfortable to meet any exigency”. The Indian rupee fell sharply to 74.20 against the greenback on Tuesday as equity markets continued to witness a selloff.
First Of The Emergency Measures?
The forex swaps are the first emergency measure announced by the central bank against the backdrop of the rapidly spreading coronavirus risks. Apart from the rising number of cases globally, India has now seen more than 70 cases.
The RBI reiterated that it stands ready to take all necessary measures to reduce the impact of the spreading virus on the economy.
“The RBI is closely and continuously monitoring the rapidly evolving global situation and spillovers,” it said. “It stands ready to take all necessary measures to ensure that the effects of the Covid-19 pandemic on the Indian economy are mitigated, and financial markets and institutions in India continue to function normally.”
Various central banks from the U.S. Federal Reserve to the Bank of England have announced emergency measures, including interest rate cuts. In India, too, economists expect the Monetary Policy Committee to cut rates either before or at its next meeting in April.
However, a fall in headline inflation to 6.58 percent in February from 7.59 percent in January may pave the way for a resumption of rate cuts when the MPC meets next in April.
India’s Comfortable External Indicators
While announcing its decision to provide dollar liquidity, the RBI advanced the release of the balance of payments data for the third quarter.
India’s current account deficit in the third quarter narrowed sharply to $1.4 billion (0.2 percent of GDP) in the third quarter of 2019-20. This is lowest quarterly current account gap since 2016, according to Bloomberg data. The deficit stood at $17.7 billion (2.7 percent of GDP) in the third quarter of 2018-19 and at $6.5 billion (0.9 percent of GDP) in the second quarter of 2019-20.
India added $21.6 billion to the foreign exchange reserves on a balance of payments basis in the third quarter. Forex reserves are adequate to cover 12 months of imports at present.