India’s forex reserves hit record $785.7 billion as RBI manages fallout of massive dollar inflows

India’s foreign exchange reserves have climbed to a record $785.7 billion, making the country the world’s fourth-largest holder of forex reserves, but the extraordinary jump has also left the Reserve Bank of India (RBI) dealing with a large surplus of liquidity in the banking system.

The reserves rose by $44.9 billion in the week ended Sep 4, the biggest weekly increase on record, according to RBI data. India has now moved ahead of Russia and ranks behind China, Japan and Switzerland.

The latest surge was driven mainly by a sharp rise in foreign currency assets, which increased by about $47.5 billion during the week. This was partly offset by a $2.6 billion decline in the value of India’s gold reserves, which stood at about $113.8 billion.

The increase also extended a sustained run of gains. Reuters reported that India’s reserves had risen for the tenth consecutive week, adding nearly $120 billion during that period.

The dollar inflow behind the record

The unusually large increase in reserves is closely linked to the RBI’s special US dollar-rupee forex swap facility introduced in June.

The facility covered FCNR(B) deposits as well as foreign currency inflows linked to External Commercial Borrowings and Overseas Foreign Currency Borrowings. The RBI offered banks a subsidised mechanism to swap the foreign currency they mobilised for rupees, encouraging banks to raise more foreign currency from overseas sources.

The response far exceeded the initial expectations.

By Aug 31, total foreign currency mobilisation under the special arrangements had reached about $136.4 billion, with FCNR(B) deposits accounting for roughly $127.2 billion, according to reports based on RBI data.

The FCNR(B) window was originally scheduled to remain open until Sep 30. However, the RBI closed it to new deposits on Aug 31 after the response substantially exceeded expectations. The facilities for ECB and OFCB inflows continued separately.

The scale of the mobilisation helps explain why the reserves moved so sharply in a matter of weeks. The RBI’s own data releases track inflows through FCNR(B) deposits, ECBs and OFCBs under the swap facility.

Why the reserve surge created a liquidity problem

The same transactions that brought large amounts of foreign currency into the system also resulted in a substantial increase in rupee liquidity.

The banking system’s liquidity surplus rose to around ₹10.3 lakh crore on Sep 3, according to a report in Indian Express. The average daily surplus in August was about ₹3.67 lakh crore, compared with ₹1.07 lakh crore in July.

For the RBI, this means the challenge is no longer only about accumulating foreign exchange. It also has to ensure that the large amount of rupee liquidity generated by these inflows does not push overnight money-market rates too far below the policy repo rate.

RBI Governor Sanjay Malhotra said the central bank has several tools available to manage the surplus, including government bond sales and foreign exchange swaps. Reuters reported that the liquidity surplus had crossed ₹10 trillion following the mobilisation of around $127 billion through the special forex scheme.

The RBI has already announced an open market operation involving the sale of government securities worth ₹1 lakh crore. The sales are scheduled in three tranches of ₹50,000 crore, ₹25,000 crore and ₹25,000 crore on September 17, 21 and 28 respectively.

The central bank has also used the Variable Rate Reverse Repo mechanism to absorb excess cash from banks. It raised more than ₹3.53 lakh crore through an overnight VRRR auction earlier this week.

What the record reserve level gives the RBI

A larger forex reserve gives the central bank greater capacity to intervene in currency markets. The RBI can use its foreign exchange holdings in the spot and forward markets when it seeks to manage excessive volatility in the rupee.

That provides an important buffer at a time when the currency market remains sensitive to movements in global capital flows and dollar demand.

But the latest increase in reserves needs to be viewed alongside the nature of the inflows that produced it. The foreign currency raised through the special scheme is not simply an unconditional addition to India’s wealth. The RBI’s swap arrangements involve corresponding obligations when the transactions are unwound.

The report noted that the recent inflows have boosted spot reserves while also creating future liabilities for the central bank.

That distinction is important in understanding the record figure. The $785.7 billion reserve stock strengthens the RBI’s foreign exchange position, while the scale and structure of the inflows also require the central bank to actively manage the liquidity and obligations generated by the operation.

India’s move into the world’s fourth position in forex reserves is therefore the visible outcome of an extraordinary period of foreign currency mobilisation.

The record reserve figure has therefore come alongside a substantial liquidity-management exercise, with the RBI using bond sales and other monetary tools to absorb the funds flowing into the banking system.