What is the rupee-dollar swap being conducted by the Reserve Bank of India (RBI)?
In order to meet the durable liquidity needs of the system, the Reserve Bank decided to augment its liquidity management toolkit and inject Rupee liquidity for longer duration through long-term foreign exchange Buy/Sell swap in terms of its extant Liquidity Management Framework. The first such swap was conducted in March 2019. Reserve Bank of India’s (RBI) new swap mechanism to infuse liquidity or cash ($5 billion, or Rs 35,000 crore) into the banking system was being tried for the first time. RBI wants to infuse durable liquidity into the banking system.
What is durable about the liquidity injection through the swap and how does it differ from liquidity adjustment facility (LAF)?
‘Durable’ refers to the fact that the infusion is long term unlike, the repurchase (repo) window where a bank swaps cash for government bonds for a short period: a day or a week, and then pays RBI back at the end of this period.
Is there any other durable mode?
The conventional mode for durable cash injection has been the Open Market Operation (OMO), in which RBI buys back specific bonds from banks in lieu of cash.
Under the new swap, RBI wants to buy dollars from banks instead of bonds, but wants to return these dollars at the end of three years for a ‘forward’ premium.
Why not a conventional OMO now?
One reason could be the risk that more OMOs might leave banks with insufficient bond holdings both for repo operations (pledging bonds as collateral) and their regulatory commitments. RBI has bought bonds in the 2018-19 financial year to supply cash with their purchases adding up to Rs 2.9 trillion.
Any impact on the exchange rate of the rupee?
Another possible reason is that RBI is signalling its discomfort with the appreciating rupee. The assumption could be that the commitment to buy the large amount of dollars at once through the swap would arrest the rupee rise.
Why do banks need more liquidity?
NBFCs have defaulted. Other firms also are not returning loans as they are in economic decline.