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RBI formalizes $75-billion swap agreement with Japan

Date: 25 February 2019 Tags: Basics of Economics, External Sector

Reserve Bank of India (RBI) and Bank of Japan have formalised $75-billion swap agreement signed between both countries in October 2018 during Prime Minister Narendra Modi’s visit to Japan. The agreement is essentially for exchange and re-exchange a maximum amount of US $75 Billion for domestic currency, for purpose of maintaining an appropriate level of balance of payments for meeting short-term deficiency in foreign exchange. Earlier in 2013, Japan had offered $50-billion currency swap to India and before that for $3 billion in 2008.

India-Japan swap agreement

  • This arrangement will help to bring in greater stability to foreign exchange and capital markets in India as it will enable availability of $75-billion in foreign capital for use as and when the need arises.
  • It will serve as second line of defence as India has about $400 billion foreign exchange reserves to cushion sudden dollar outflows.
  • It will act as cushion against any sharp swings in local currency whenever international financial markets turn volatile.
  • It will make it easier for India to pay for its imports and aid in addressing challenge of depreciation of rupee.
  • It will help to bring down cost of capital for Indian entities while accessing foreign capital market. It will also improve confidence in Indian market.
  • Moreover, it will help to deter speculative attacks on domestic currency and greatly enhance RBI’s ability to manage exchange rate volatility.

What is Currency swap?

  • It is foreign exchange agreement between two parties to exchange given amount of one currency for another and after specified period of time to give back original amount that is swapped.
  • In it, holder of unwanted currency exchanges that currency for equivalent amount of another currency to improve market liquidity of currency owned or to obtain bank financing at lower rate.
  • It is considered to be foreign exchange transaction and is not required by law to be shown on the balance sheet.
  • It involves trading in local currencies and countries can pay for imports and exports through their own currencies rather than involving third country currency.

Benefits of Currency swap

  • It makes easier to improve liquidity conditions.
  • It helps in savings of foreign exchange when economy is not looking in good shape.
  • It contributes towards stabilising country’s balance of payments (BoP) position.
  • It does away with charges involved in multiple currency exchanges.