The swap program–through which the RBI subsidized banks’ costs of raising dollars—is set to end this week and is likely to have pulled in more than $25 billion, according to one central bank official.
When the program was announced in early September, most analysts had expected it to attract less than $15 billion.
“The swap facility has definitely worked and has been a key support for the rupee in recent months,” says Sacha Tihanyi, senior currency strategist at Scotiabank in Hong Kong.
Introducing the swap facility was the first move of Raghuram Rajan, a high-profile academic who took over as the head of India’s central bank a few days after the rupee hit a record low of 68.80 to the dollar on Aug. 28.
The sharp fall was fuelled by concerns about India’s chronic current account deficit and fears that the U.S. Federal Reserve would end its easy money policy that has flooded global markets with cash in recent years.
Since then, the U.S. Fed’s decision to postpone its stimulus withdrawal and measures taken by Mr. Rajan to build confidence in the rupee have helped the currency gain 11% from its record low. It was last changing hands at 62.38 to the dollar.
To be sure, the rupee is not out of the woods yet. Fears the U.S. will end its monetary stimulus soon have reemerged and while the country’s current account deficit has been shrinking, thanks in part to restrictions on gold imports, it is still too large, economists say.
Still, most analysts believe the rupee is unlikely to see a new record low in the near future, partly due to the RBI’s measures.
“I don’t think there is a major threat to the rupee anymore,” says Madan Sabnavis, chief economist at CARE Ratings Ltd. in Mumbai.
The RBI’s program works like this: Indian banks accept deposits denominated in foreign currency from Indians living overseas. The money is then changed into rupees. The overseas Indians eventually have to be paid back in dollars when the deposits mature, so Indian banks risk losing money if the rupee depreciates.
Under the RBI’s initiatives, banks that collect deposits with maturities of longer than three years can hedge against that currency risk through the central bank for just 3.5% per year. That’s well below the regular market rate of around 6.0% to 6.5%.
The dollars raised through these deposits go to India’s foreign exchange reserves, an emergency fund central banks use to bolster their currencies. When currencies are sliding in times of stress, central banks sell dollars from their reserves to prop up their currencies.
India had $275 billion of foreign-exchange reserves at the end of August. Reserves have now increased to about $284 billion, mainly due to the swap program, said analysts.
The expected $25 billion “is the kind of money they would have raised if they had done a sovereign bond issue, so it has been a success,” said Dariusz Kowalczyk, senior economist at Credit Agricole Bank in Hong Kong.
Courtesy: Wall Street Journal