In their report, the BofA Securities’ economist duo highlighted that during FY20 the RBI bought $49 billion, more than offsetting the $15.4-billion it sold in FY19.

“This is aided by a falling current account deficit (revised down to 0.9% of gross domestic product from 1% earlier) on falling import demand,” Sen Gupta and Gudwani wrote.

So, what would satisfy a conservative central banker? $550 billion, in the duo’s view, still higher than the $476 billion, at an average of three metrics. One, 10-month 1-year forward import cover at imports of 20% of GDP yields $535 billion. Two, 100% cover for foreign portfolio investments (FPI), on a mark to market basis (MTM) basis, yields $520 billion. And, third, the forex reserves divided by short-term debt of 1-year residual maturity plus FPIs’ debt investments at two times works out to $594 billion.

On the import cover, the economist duo highlighted that the 1-year forward import cover has slipped to 11.1 months from 14.4 in the last upcycle. “The reason it looks relatively high is that low growth has pulled imports to 16.4% of GDP from the average 21.9% since FY06,” the duo wrote. They place ‘conservative’ forex reserves at $535 billion, at 10-month 1-year forward import cover at imports of 20% of GDP. “Empirical evidence suggests the Indian rupee depreciates if it falls below eight months.”

In support of the FPI to forex cover, pegged at $521 billion, Sen Gupta and Gudwani mentioned that FPI investments, on MTM basis, rose to 113% of forex reserves in September 2019 from 82% in 2007. “100% forex cover currently requires $521 billion of forex reserves,” the duo added.

And, on the forex reserves divided by India’s short-term debt of 1-year residual maturity plus FPI debt investments, the duo pointed out that the ratio slipped to 1.5 times in September 2019 from 3.8 times in 2007. At two times (twice the Greenspan-Guidotti rule), the RBI needs $594 billion of forex reserves.

“On balance, our BoP (balance of payments) estimates suggest that the RBI would buy $21 billion of forex in FY21,” the duo wrote. “It (the RBI) will likely shift to forward purchases to step up OMO (open market operations) to fund the Center’s FY21 fiscal deficit of 3.5% of GDP (with 30 basis points’ upside risk),” Sen Gupta and Gudwani highlighted.

Clearly, these pointers indicate that the further increasing of India’s forex reserves is the need of the hour and much more than newer records to celebrate and cheer.

Indranil Sen Gupta

India’s forex kitty could swell to $550 billion