10/11/2018
*The India–Japan, Currency Swap Agreement*
Last week, India and Japan entered into a currency swap agreement to the tune of US$ 75 billion, which might help in controlling the steep fall in the Indian rupee’s value.
*How does it work?*
The agreement is signed between the central bank of two countries, where the terms and costs of the swap are decided. Under a currency swap, one country will be able to exchange its currency with an equivalent value of the other country’s currency, at a pre-determined exchange rate and for a predetermined period. In the present case, Reserve Bank of India (RBI) will have access to US dollars of up to 75 billion (or Japanese Yen of an
equivalent amount) from the Bank of Japan. In return, Bank of Japan will also get an equivalent amount of Indian rupees or US dollar from the Reserve Bank of India (RBI). The arrangement will be used only when required, and will help the government in meeting short term liquidity requirements. Since the exchange rate on the swap is
fixed, foreign currency risk is also mitigated.
*What are its benefits?*
1) Will help in managing the fall of the rupee:
So far, the government and the central bank have taken several measures to contain the rapid fall of the rupee. In addition to intervention in the forex markets, they have discouraged some non-priority imports by
increasing customs duties on them, reviewed certain restrictions on Foreign Portfolio Investors (FPI) investments in debt, relaxing rules for raising money through masala bonds (rupee denominated paper sold
overseas) and external commercial borrowings, and easing overseas borrowing restrictions for the manufacturing sector. However, the currency market was unmoved due to these changes. The bilateral
currency swap, therefore, ensures that there are enough foreign currency reserves available with the government to meet future unprecedented volatilities.
2) Will help in improving market sentiment towards the rupee:
The continued fall of the rupee, despite the measures of the government and central bank, increased the
speculative pressure on the rupee. The bilateral currency swap agreement increases the buffer of foreign
capital available with RBI, which in turn will help assuage the concerns of foreign investors. Foreign Institutional Investors (FIIs) have pulled out a net Rs. 1,13,262 crores from the Indian market so far in the financial year.
*Conclusion*
The currency swap adds to the tools the government and central bank have in managing the fall of the rupee.
The currency swap agreement is the largest in the world, and comes against the backdrop of rise in interest rates
in the US that led to strengthening of the US dollar against other currencies and flight of capital from emerging
countries. The move, therefore, aims at instilling confidence in India’s foreign exchange and capital markets.
Sources: NSDL, RBI and other publicly available informations.
