Dollar Swap 

#GS3 #Economy 

News : India is working with the United States to secure a dollar swap line that would help in better management of its external account and provide extra cushion in the event of an abrupt outflow of funds, according to banking industry and government sources. 

  • India already has a $75 billion bilateral currency swap line with Japan, which has the second highest dollar reserves after China.  
  • The Reserve Bank of India also offers similar swap lines to central banks in the SAARC region within a total corpus of $2 billion. 

What are the benefits of a swap line? 

  • While India is largely expected to tide over any challenge posed by continued outflows of funds from the markets, a swap line with the US Federal Reserve provides additional comfort to the forex markets.  
  • Foreign institutional investors (FIIs) have been large sellers in the Indian equity and debt markets in March and April so far. 
  • Even as the stock markets have seen a pullback from earlier low levels, there is apprehension that the economic impact of COVID-19 will last for a significant length of time, and there is unlikely to be any V-shaped recovery in the economy or in the financial markets. 
  • This means that the government and the RBI cannot lower their guard on the management of the economy and the external account. 

Are India’s foreign exchange reserves enough? 

  • In roughly a month, India’s foreign exchange reserves have fallen by nearly $13 billion — from an all-time high of $487.23 billion on March 6 to $474.66 billion as on April 3, as per the latest data reported by the RBI. 
  • Despite the slump in global crude oil prices and reduction in imports due to the pandemic outbreak, a sharp outflow of funds resulting from foreign portfolio investors (FPIs) looking for safer havens amidst the current global uncertainty, has pulled down India’s foreign exchange reserves. 
  • According to RBI data, 63.7% of India’s foreign currency assets — or $256.17 billion — are held in overseas securities, mainly in the US treasury.  
  • Some forex market participants believe that the country’s reserves at this stage — which are roughly equivalent to 12 months of import requirements — are sufficient to tide over any difficulty. 

How does a swap facility work? 

  • In a swap arrangement, the US Fed provides dollars to a foreign central bank, which, at the same time, provides the equivalent funds in its currency to the Fed, based on the market exchange rate at the time of the transaction.  
  • The parties agree to swap back these quantities of their two currencies at a specified date in the future, which could be the next day or even three months later, using the same exchange rate as in the first transaction. 
  • These swap operations carry no exchange rate or other market risks, as transaction terms are set in advance.  
  • The absence of an exchange rate risk is the major benefit of such a facility. 

Does India have a swap line with any other country? 

  • In 2019, India signed a $75 billion bilateral currency swap line agreement with Japan, which has the second largest dollar reserves after China.  
  • Last November, to further financial stability and economic cooperation within the SAARC region, the RBI put in place a revised framework on currency swap arrangement for SAARC countries for 2019-22. 
  • This facility originally came into operation on November 15, 2012 to provide a backstop line of funding for short-term foreign exchange liquidity requirements or balance of payment crises until longer term arrangements were made.  
  • Under the framework for 2019-22, RBI will continue to offer a swap arrangement within the overall corpus of $2 billion. Other countries can withdraw funds in the US dollar, the euro, or the Indian rupee. 
  • This facility provides India with the flexibility to use these reserves at any time in order to maintain an appropriate level of balance of payments or short-term liquidity. 

With which countries does the US have swap lines? 

  • On March 19, 2020, the Fed opened temporary swap arrangements with the central banks of Australia, Brazil, Denmark, South Korea, Mexico, Norway, New Zealand, Singapore, and Sweden, to be in place for at least six months for a combined $450 billion. 
  • The Fed already has permanent swap arrangements with the Bank of Canada, the Bank of England, the European Central Bank, the Bank of Japan, and the Swiss National Bank.  
  • Other large economies including India, China, Russia, Saudi Arabia and South Africa — all part of the G-20 grouping — currently do not have a currency swap line with the US. 
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