CAT 2006 GDPI Topics - Rupee Convertibility, floating exchange rate, fixed exchange rate, foreign exchange, RBI's forex policies
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GD Topic : Forex, foreign exchange rate, convertibility

The GD topic that we has been taken up for analysis is

"With over USD 120 billion forex reserves, Rupee should become completely convertible"

The basic concepts behind forex reserves, exchange rate systems, rupee-dollar exchange rate and convertibility are discussed below. This refresher will assist you during your group discussion on the above topic. It is important that you get familiar with these economic and financial jargons and understand what they mean. As your GD topic could be from economics or finance, your prowess in these basic concepts will help you talk confidently in the GD.

What are Forex reserves?
Why hold forex reserves?
Historic Perspective on India's Forex Position
Exchange Rate - Fixed Regime to Market Determined Floating Regime
What is the Appropriate Level of Forex Reserves?
Cost and Benefits of Holding Forex

What are Forex reserves?
The amount of foreign currency, SDRs and gold that are held by the Reserve Bank of India or the Central Bank of any country is known as the foreign exchange reserves of a country.

Why hold forex reserves?
Technically, it is possible to consider three motives
  1. Transaction - International trade gives rise to currency flows, which are generally handled by private banks driven by the transaction.
  2. Speculative - Individual or Corporates trade and invest in foreign currencies for gain.
  3. Precautionary - Reserve Bank's reserves are characterized primarily as a last resort stock of foreign currency for unpredictable flows, which can classified as a precautionary motive
A list of objectives in broader terms may be encapsulated viz.,
  1. Maintaining confidence in monetary and exchange rate policies - i.e the value of Rupee vis a vis major foreign currencies like the dollar, euro etc does not nosedive suddenly.
  2. Limiting external vulnerability by maintaining foreign currency liquidity to absorb shocks during times of crisis including national disasters or emergencies;
  3. Providing confidence to the markets especially credit rating agencies that external obligations (like borrowings from IMF, World Bank etc) can always be met.

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