Reddy on record

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 (a) The liberalisation of imports of gold has brought a large segment of unofficial imports and forex market into the official sector and reduced large transaction costs incurred in foreign exchange.

 In fact, meaningful development of forex markets was enabled by this measure and consequently effectiveness of intervention in forex markets enhanced.

 (b) Furthermore, abolition of automatic monetisation, and marketisation of Government borrowings provided opportunities to sterilize the capital inflows.

 In other words, large capital flows could be absorbed into the forex reserves without seriously imparting volatility in forex or money markets because of simultaneous actions taken to develop these markets.

 In fact, there are occasions in recent years when RBI converted non-marketable government securities (ad-hoc treasury bills) in its portfolio into marketable ones by appropriate arrangements with government, to enhance its capacity to conduct open market operations.

 The criticality of the state of financial markets in the management of capital flows and forex reserves needs to be appreciated.

 Second, it is justifiable to ask about the prospects for reserve levels increasing in future. It must be recognised that two factors are responsible for significant addition to reserves in the recent past viz., a far lower level of current account deficit (CAD) than the expected sustainable level of about 2 per cent of gross domestic product (GDP) each year, and continued inflow of capital especially of non-debt creating flows as more or less planned.

 In this background, financing of an average CAD of about 2.8 per cent of GDP as projected in the approach paper to the Tenth Five Year Plan, would require a minimum of two-fold increase in the size of annual capital flows from the present level.

 As indicated in the RBI Annual Report 2000-01, this would imply that the net capital flows would have to increase from about US $ 10 billion in the initial year of the Tenth Plan to about $40 billion in the terminal year or an average of $20 billion per annum during the Tenth Plan period.

 

 --Random Thoughts