RBI's $5 billion swap maturity sparks concerns, but no major turbulence

The maturity of the Reserve Bank of India's (RBI) $5 billion swap on Monday resulted in increased demand for US Dollars and a decline in the overnight swap rate, but it did not lead to significant disruptions in the premium and spot forex markets.

The RBI's Dollar/Rupee swap, which was initiated in April 2022, was aimed at providing banks with Dollar liquidity, which will now be withdrawn. Consequently, banks that engaged in the swap are required to return the borrowed Dollars.

To fulfil this obligation, banks can turn to the overnight swap market to borrow Dollars against the Rupee. The drop in the swap rate indicates a heightened demand for US Dollars. On Monday, this rate decreased to 0.14 paisa, equivalent to 0.07 paisa per day, considering that the forex market is closed on Tuesday due to Dussehra. In any case, this rate is notably lower than the 0.17 paisa rate on the preceding Friday.

Based on the swap cost, the implied Rupee interest rate of 5.60 per cent is considerably lower than the comparable 6.60 per cent overnight Rupee call rate. In simpler terms, banks are willing to offer Rupees at a lower interest rate to obtain US Dollars, indicating a shortage of US currency.

Currently, it appears that this Dollar shortage will be short-term, as noted by Ritesh Bhusari, joint general manager for treasury at South Indian Bank. However, if the global Dollar shortage intensifies and geopolitical risks escalate, the RBI may intervene through sell-buy swaps to manage Dollar liquidity in the market.

As the cash swap rate declined, the premiums on Rupee forward contracts, both short-term and long-term, also experienced decreases. The 2-month and 1-year premiums reached their lowest levels since mid-August and early September, respectively. Meanwhile, the Rupee remained within a narrow range, last quoted at 83.1575 per Dollar.

If the swap rate had fallen into a discount, it could have exerted additional pressure on the Rupee, leading to more significant drops in premiums. However, the maturity of the swap has not caused any noteworthy disruptions in the financial markets.

(With Reuters Inputs)