India’s foreign exchange reserves covered 7.1 months worth of imports as at March-end 2012, down from 8.5 months as at September-end 2011.

The main reason for the decline in import cover is that foreign exchange (forex) reserves came down to $294.4 billion at March-end 2012 against $311.5 billion as at September-end 2011.

The forex reserves declined due to the Reserve Bank of India’s intervention in the domestic forex market and the effect of revaluation.

The reserves to import ratio is one of the three benchmarks ratios — the other two being short-term debt to forex reserves and volatile capital flows to forex reserves — used to measure the amount of reserves a country should hold as an insurance against a currency crisis. The ratio of short-term debt to forex reserves which was at 23 per cent at September-end 2011 increased to 26.6 per cent at March-end 2012, according to the RBI’s 18th half yearly report on management of forex reserves - October 2011- March 2012.

Short-term debt includes suppliers’ credit up to 180 days and foreign institutional investor investments in Government of India Treasury Bills and other instruments. It also includes external debt liabilities of the banking system; and the investments in Government Securities by foreign central banks and international institutions.

The ratio of volatile capital flows (defined to include cumulative portfolio inflows and short-term debt) to the forex reserves increased from 68.3 per cent as at September-end 2011 to 79.9 per cent as at March-end 2012. The RBI held 557.75 tonnes of gold forming about 9.2 per cent of the total foreign exchange reserves in value terms as on March-end 2012. Of these, 265.49 tonnes are held abroad in deposits/ safe custody with the Bank of England and the Bank for International Settlements.

Foreign currency assets (FCA), which are maintained in major currencies such as US Dollar, Euro, Pound Sterling, Japanese Yen, etc., accounted for 88.33 per cent of the forex reserves.

Movements in FCA occur mainly on account of purchases and sales of forex by the RBI in the forex market in India, income arising out of deployment of forex reserves, external aid receipts of the central government and the effects of revaluation of the assets.

(This article was published on August 16, 2012)
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