This rise in reserves comes on the back of foreign investment in local equities, along with inflows due to Indian government bonds being included in the JP Morgan Emerging Market Index. FPIs invested $11.1 billion in Indian stocks in September, NSDL data showed, whereas investment in government bonds through the fully accessible route increased by over $2 billion, CCIL data showed.
“RBI net purchased $7.8 billion last week, and the rest is valuation gain, because there was moderation in US bond yields, gold prices were higher and dollar weakness had persisted,” said Gaura Sengupta, chief economist at IDFC First bank.
High reserves also make India an attractive investment destination, as inventors are more comfortable with a market that has strong foreign exchange reserves and better external metrics. In an environment of outflows from foreign investors, high foreign exchange reserves act as a buffer.
“India is sitting on very large reserves, we now have more than 11 months of import cover. So the impact of outflows on INR is likely to be relatively less as compared to other currencies as RBI is likely to smoothen out the volatility,” said Anubhuti Sahay, head of India economics research at Standard Chartered Bank. “In case of outflows, yes there will be a negative impact but strong reserves mean the impact on rupee is limited, depending on where RBI is comfortable,” she said.
However, larger foreign exchange reserves do not necessarily mean a stronger rupee, even as it serves as an ammunition to defend the currency during times of volatility. “The RBI’s preference is clearly revealed as being biased towards a stable to slightly weaker INR. Now there seems little intention to rethink this strategy, given INR’s underperformance in the recent US dollar selloff,” said Bank of America Securities in a report.