After the pandemic, India’s foreign exchange reserves surged to a record high of around $705 billion in end-September 2024 before starting to decline. The latest data from the Reserve Bank of India shows a decrease of $1.23 billion, bringing the total reserves to $623.9 billion for the week ended January 17, 2025.
The decline in reserves can be attributed to the RBI’s intervention in the forex markets to sell US dollars. This was necessary as the rupee came under pressure due to a surge in US dollar and US bond yields, exacerbated by foreign portfolio outflows from the equity market. The RBI had to heavily sell dollars to support the Indian currency in the last quarter of 2024.
The decrease in dollar holdings has impacted the reserves, although the value of other holdings denominated in US dollars has increased. The rise in the value of gold holdings has also helped support the reserves. Overall, India’s forex reserves have dropped by about 11.6% since reaching the peak in September 2024.
In terms of a healthy level of forex reserves, economists suggest that having reserves equivalent to about 10-12 months’ worth of imports would indicate adequacy. India’s current reserves would cover just over 8 months of imports if the entire amount is considered, and around 7 months if only the foreign currency assets are taken into account.
The Greenspan-Guidotti rule, which looks at short-term external debt coverage, indicates that India’s reserves are comfortable. The ratio of short-term debt to foreign exchange reserves was 18.9% at the end of September 2024, suggesting a healthy position. The IMF’s Adequacy Ratio Assessment for Emerging Markets also considers India’s reserve adequacy as strong, even with the recent decrease in reserves.
Despite the adequacy of reserves, some economists recommend a cautious approach in maintaining and adding to reserves. With geopolitical uncertainties on the rise, it may be prudent to have higher reserves as a buffer against potential risks. India’s current reserve adequacy ratio is still considered strong, but in uncertain times, it is better to err on the side of caution and monitor all risk parameters closely.
