Mains Paper 3: Economy
Prelims level: dollar-rupee swap
Mains level: Economic issue and impacts
The Reserve Bank of India’s decision last week to resort to a
dollar-rupee swap, instead of the traditional open-market purchase of bonds,
to infuse liquidity into the economy marks a significant shift in the
central bank’s liquidity management policy.
Under the three-year currency swap scheme, which is scheduled to
open on Tuesday next week, the RBI will purchase $5 billion from banks in
exchange for rupees.
Role of Central Bank
The central bank will infuse as much as 35,000 crore into the
system in one shot at a time when liquidity generally tends to be squeezed.
For the banks, it is a way to earn some interest out of the forex
reserves lying idle in their kitty.
Apart from injecting fresh liquidity into the economy, the move
will have implications for the currency market even as it helps shore up the
RBI’s dollar reserves.
Bond yields rose on the day following the announcement of the swap
scheme last week, reflecting the prevailing opinion among traders that the
RBI may gradually reduce its dependence on the regular bond purchase scheme
to manage liquidity within the economy.
While traditional open market operations distort the bond market,
the new forex swap scheme will introduce new distortions in the currency
The rupee’s recent rally against the dollar has been halted by the
RBI’s decision to infuse rupees and suck out dollars through the swap
Even so, it is worth noting that the rupee has appreciated
significantly in value terms against the dollar since the low reached in
October as foreign investors have begun to pour money into the Indian
Effect of the dollar-rupee swap
Overall, the dollar-rupee swap is a useful addition to the RBI’s
policy toolkit as it offers the central bank a chance to directly influence
both the value of the rupee and the amount of liquidity in the economy at
the same time using a single tool.
In the aftermath of the liquidity crisis in the non-banking
financial sector, it can be an effective way to lower private borrowing
costs as well.
The coming elections, which can lead to an increase in cash
withdrawals from banks, may have also played a role in the RBI’s larger
decision to boost liquidity in the system.
The way banks respond after receiving fresh liquidity from the
RBI, however, will determine the success of the new liquidity scheme to a
Businesses could benefit from the greater availability of
liquidity, but only if banks aggressively pass on the benefit of lower rates
to their borrowers.
If banks choose to deposit the fresh RBI money in safe government
securities at low yields, as they have done in the past, the de facto cap on
the government’s borrowing costs will remain intact.
But if banks manage to find alternative ways to deploy their
money, the RBI’s new liquidity scheme could end up raising borrowing costs
for the government, punishing it for fiscal indiscretion.
Q1. Consider the following statements about Aranyakas.
1. They are the concluding portions of the several Brahmanas.
2. They mainly deal with sacrificial techniques and karma kandas.
3. These were works to be read in the villages, as opposed to ‘Brahmanas’ text
which must be read in the forests.
4. There is no Aranyaka which belongs to the Atharvaveda.
Select the correct answer using the codes below.
a) 1 and 4 only
b) 1 and 2 only
c) 3 only
d) 1, 3 and 4 only
Q1.The dollar-rupee swap allows the RBI to directly influence rupee value and
liquidity. Explain it.