FOREIGN EXCHANGE RESERVES RATE NORMS UPSC
FOREIGN EXCHANGE MANAGEMENT ADEQUACY NORMS
FOREIGN EXCHANGE RATE VS RESERVES
FOREIGN EXCHANGE RATE UPSC
FOREIGN EXCHANGE RATE VS RESERVES
In an ideal world with free floating exchange rates no country should be required to hold reserves or if at all it will be very small amounts to buy capital goods to increase productivity, but since countries interfere with FOREX rate, FOREX reserves are created.
Devaluation - Lower than market determined exchange rate would make exports cheaper leading to more exports and less imports. This situation can be used to develop reserves.
Devaluation is used by poor countries to export more as inadequate reforms, obsolete technology, bad infrastructure makes exports less competitive.
Open economies can sometimes have high reserves because they have more exports but little imports because of quality of imports and population. i.e. OPE C countries of middle east(low population), Russia, Japan, etc.
FOREIGN EXCHANGE RATE VS RESERVES vs economic policy
Foreign exchange rate & need for reserves are dependent on economic policy a nation pursues in the following ways,
- Competiveness of the economy – Open economies are normally competitive., require less reserves.
- Choice of economic policy affects the choice of forex regime type
If a country chooses the closed economic model, it may lead to pressure on reserves leading to tighter control on foreign exchange and on movement of rates, on the other hand open economic policy has a tendency to achieve equilibrium of exchange rate. Below provided are foreign exchange rate policy choices, starting from extremely rigid policy used by closed economies to the ones used by free market economies. Gold peg is no more in use.
Gold peg > Exchange Arrangements with No Separate Legal Tender or formal dollarization > Fixed Peg Arrangements> Managed Floating with No Predetermined Path for the Exchange Rate or partial float> Independently Floating or free floating
- Transparency and reforms in the economy – transparent economic policy leads to stable growth less volatility, less control requirement.
FOREIGN EXCHANGE RESERVES MANAGEMENT
FOREIGN EXCHANGE RESERVES MANAGEMENT
FOREX Reserves requirement arises out of the following reasons,
- To offset uncertain times. i.e. covid, recessions, etc.
- To assure investors that capital flows will not be controlled anytime soon.
- For trade related capital outflows.
- As a precaution, because of the skewed nature of the economies, service dependent economies of sri-lanka & maldives.
FOREIGN EXCHANGE RESERVES MANAGEMENT NORMS
FOREIGN EXCHANGE RATE ADEQUACY NORMS
FOREX Reserve requirements vary from country to country depending on exchange rate policy, size, composition of the economy, trade pattern, etc.
In so far as trade is concerned current accounts are not considered risky as they happen in real time and can be managed but capital account flows are risky and hence governments try to micromanage.
In india current account is fully convertible but capital account is only partially convertible.
Capital vs current account and convertibility
Capital vs current account and convertibility
Convertibility – refers to the policy of a central bank, whereby it decides to allow or disallow or partially allow exchange of a currency for a particular purpose like trade on current account, capital account transfers, etc. on demand.
Current account – includes all cross border recurring items of trade, i.e. visible (goods) & invisibles (services ) transfer of profits, etc,. balance of current account would be balance of trade.
Capital account – includes capital flows into and out of the country that has a bearing on Forex reserves. It includes loans & investments by corporate and individuals, citizen controlled unilateral capital flows, etc.