Effect of Dollar appreciation on India's foreign exchange

Richard_Parker

How does appreciating dollar or depreciating rupee affect India's foreign exchange reserves?

A related question - which currency is used to calculate India's foreign exchange? is it rupee? is it dollar, or is there some other way?

Thanks

RossGellar

As rupee depreciates, then current forex reserve will not have any effect as it is foreign currency which is being accumulated by RBI. And since forex reserve is denominated in dollar itself so appreciation or depreciation of dollar wrt rupee will not have any effect on dollar itself. But in medium to long term depreciation of rupee will encourage exports and discourage imports which will lead to improvement in trade balance and increase in forex reserve.
To my knowledge forex reserve all over the world is denominated in dollar itself as it is international currency.

Richard_Parker

@RossGellar I think if dollar value of component assets change, that would affect the forex reserves. Like if dollar appreciates wrt pounds then the pounds RBI has accumulated in reserves will have lesser value, and so a generally appreciating dollar should reduce forex reserves (even without any outward flow of investments, which such a scenario may accomany, further accentuating the fall in reserves). And as you said, the situation will need to be rescued by elasticity of our exports. Do u agree?

Jaime_Lannister

If dollar value changes in international market, so does value of our forex reserve.
If rupee value changes drastically, RBI intervenes in currency cash market and sells or buys currency - thus forex reserve value changes again.
To tackle volatility in global currency, RBI also dabbles in forward contracts from hedging pov. When these contracts mature again forex value changes.
If hot money crosses border with alarming rate RBI intervenes (mops up the excess for ex.) and thus forex reserve value changes again.

Import/export, CAD etc are secondary and incidental/indirect repercussions.

Ross Geller - Unagi.
Richard Parker - Grrrr.

RajanRaghuram

Richard_Parker said:

How does appreciating dollar or depreciating rupee affect India's foreign exchange reserves?

A related question - which currency is used to calculate India's foreign exchange? is it rupee? is it dollar, or is there some other way?

Thanks

Reserves are maintained in major currencies like Dollar, Pound Stirling, Euro, Yen etc., but are expressed in terms of US Dollars only.
Apart from foreign currency, Gold Reserves are also a component of Forex Reserves.
Any movement of USD with respect to other currencies or any movement in Gold Prices leads to a change in the Forex Reserve levels, as expressed in US Dollar terms.

ravi_newbie

There are two things here:

1. Forex Reserves are reported in USD. So, an appreciation of USD against major currencies would imply that India's reserves go up (considering everything else remains same)
2. However, large appreciation in USD would MOSTLY lead to a "Sterilisation" policy of RBI, wherein RBI would sell USD from its reserves to maintain the Exchange Rate and hence the forex reserves would come down.

Hope this clears your doubt!

Richard_Parker

Thanks @Jaime_Lannister @RajanRaghuram

@ravi_newbie can u plz substantiate with an example, i think it should be the opposite of what u suggest, i.e. reserves going down if dollar appreciates, because asset value will go down and also RBI's intervention by selling dollars to contain depreciating rupee, will eat into reserves.

ravi_newbie

@Richard_Parker I have written that in point 2. But rbi does not always take up Sterilisation, in cases when depreciation is short term or when depreciation is competitive in order to boost exports.

Richard_Parker

ravi_newbie said:

@Richard_Parker I have written that in point 2. But rbi does not always take up Sterilisation, in cases when depreciation is short term or when depreciation is competitive in order to boost exports.

but i contend an appreciating dollar will always reduce forex reserves in the short run, regardless of what RBI does i.e. the opposite of what u suggested in point 1 of ur earlier comment.