A $700 billion war chest

Increasing geopolitical tensions in West Asia have put pressure on the Indian rupee, which breached the 84 mark against the US dollar last week. There are primarily two reasons why the rupee could witness volatility if the conflict escalates. First, the conflict could increase risk aversion among foreign investors, resulting in capital outflows. Second, it could potentially disrupt the supply of crude oil, leading to a significant increase in prices. Since India imports the bulk of its crude oil needs, this could increase dollar demand. Higher energy prices are always a risk for India. While oil prices are currently within a manageable range, India seems confident of dealing with global financial and energy market volatility. One of the key sources of this confidence is its massive foreign exchange reserves. It crossed the $700 billion mark recently.

- RAJESH KUMAR

Higher foreign exchange reserves and active intervention by the Reserve Bank of India (RBI) have kept volatility in the currency market contained. The rupee has depreciated by just about 1 per cent since the beginning of the year. In fact, some economists argue that the volatility is too low. There are various reasons for accumulating large reserves, and India has consistently pursued this approach since liberalisation, with only brief periods of exception. The official stance of the RBI is that it intervenes in the foreign exchange market primarily to contain volatility.