MC Explains| All you need to know about RBI's forex intervention tools to curb rupee fall

MC Explain| All you need to know forex intervention tools available with RBI

Intervention in the foreign exchange market has become a regular practice for the Reserve Bank of India (RBI) to stabilise the Indian rupee, which has been on a depreciating spree for the last few weeks.

The central bank has been using the most common strategy for intervention, which is selling dollars in the spot market and taking positions in the non-deliverable forward (NDF) market.

While this approach has helped reduce volatility, the Indian rupee continues to hit new record lows almost daily.

Experts say that the central bank has more tools for intervention in the forex market to reduce the high demand for dollars and tackle the geopolitical tensions leading to higher volatility.

If you are aware of the current volatility in the Indian rupee and the tools used by the RBI to curb it and want to know about more tools that can be used, here’s an explainer for you.

Why has the rupee been depreciating?

The rupee has come under pressure in the last few weeks due to various domestic as well as international factors. These include India’s sluggish growth, outflows by foreign investors from Indian equities, and the strengthening of the dollar index after Donald Trump announced tariff plans, among others.

In the last three months, the domestic currency has depreciated to 85.7225 against the US dollar on January 7, from 83.9688 on October 3, 2024.

Is RBI regularly intervening to curb volatility?

As per experts, the central bank is seen intervening in the currency market on a regular basis in the spot as well as the forward market.

While this has not helped stop further depreciation, the sharp fall has been avoided.

The rupee has remained the least volatile currency among its Asian peers, depreciating just 2.93 percent since the start of 2024, till today.

How has the RBI intervened in the market so far?

The central bank has intervened in the currency market by spending from its forex kitty heavily and taking positions in the NDF market.

According to the RBI data, the central bank spent $60.9 billion from its forex kitty to curb the volatility in the local currency. India’s foreign exchange reserves have come down to $640.279 billion as on December 27, from $701.175 billion as on October 4.

Similarly, according to the RBI Bulletin, the central bank has been selling dollars in the forward market in most months in 2024.

Are there more tools available for the RBI to curb volatility?

Most currency experts believe there are a few more tools available for the RBI to reduce the dollar demand and curb the volatility such as the introduction of a dollar window for oil importers and a swap option for FCNR deposits.

Anil Kumar Bhansali, Head of Treasury and Executive Director Finrex Treasury Advisors LLP, said an oil window is one option which will not drain dollar liquidity as they can supply dollars directly to oil companies. Thus, the RBI will not be required to sell dollars and will give the market that much relief on rupee liquidity.

Additionally, Bhansali said the second option for the central bank is to give a 2 percent cashback on FCNR deposits, which will give banks relief to that extent as they cannot deploy the dollar assets at 9 percent.

Has RBI used these tools earlier?

Yes, the central bank has used these tools during the taper tantrum period. The RBI announced two special swap windows in September 2013. First, it offered to swap US dollars raised by banks from foreign currency non-resident (FCNR) deposits of 3 years and above maturity into INR, at a concessional rate of 3.5 percent per annum, about 3 percent cheaper than the market at that time. Second, it allowed banks to raise foreign currency funding and swap them into INR at a concessional rate of 1 percent below the market.

Further, the central bank in 2013 also opened a special window to help the three state-owned oil marketing companies meet their daily foreign exchange requirement in a bid to check the rupee's freefall.