After a $5 billion dollar-rupee swap less than a month ago, the Reserve Bank of India (RBI) has announced another $10 billion buy-sell swap arrangement on Friday (February 21). The move aims to inject long-term rupee liquidity into the system while also stabilizing the rupee and strengthening foreign exchange reserves.
Why is the Swap Being Conducted?
According to Dilip Parmar, Research Analyst at HDFC Securities, the swap mechanism can help stabilize the currency by providing immediate liquidity support, mitigating pressure on the rupee during foreign fund outflows. “This temporary relief can bolster market confidence and prevent excessive volatility in the exchange rate,” he explained. The initiative will also help build the RBI’s dollar reserves as it continues to intervene in the forex market to prevent a sharp depreciation of the rupee. The central bank is set to conduct the $10 billion swap auction for a three-year tenor next week.
Assessing the Liquidity Crunch
In January 2025, the Indian banking system experienced its worst liquidity crunch in over a decade. The liquidity deficit peaked at ₹3.15 lakh crore on January 23, the lowest level in nearly 15 years. Factors such as tax outflows, GST payments, and the RBI’s forex interventions to stabilize the rupee significantly impacted cash flows. The liquidity shortfall forced banks to rely heavily on market borrowing, pushing interbank call money rates above the policy repo rate of 6.50%, according to Crisil.
To stabilize the rupee, the RBI has been actively selling dollars, which in turn has withdrawn an equivalent amount of rupees from the system. As of December 31, 2024, the RBI’s outstanding net forward dollar sales surged to $67.93 billion. In the spot market, the RBI sold $45 billion in the third quarter alone – $15.15 billion in December, $20.22 billion in November, and $9.27 billion in October.
How Does the Swap Work?
The RBI’s swap is a simple buy-sell foreign exchange transaction. Under the arrangement, banks sell US dollars to the RBI while simultaneously agreeing to repurchase the same amount at the end of the swap period.
In the first leg of the transaction, banks will sell dollars to the RBI at the FBIL Reference Rate on the auction date. The settlement will occur on a spot basis, with the RBI crediting rupee funds to the successful bidder’s current account. The bidder will then deliver the corresponding dollars into the RBI’s nostro account. In the reverse leg of the transaction, banks must return the rupee funds along with a swap premium to reclaim their dollars.
Previous RBI Measures to Address Liquidity
Over the past five weeks, the RBI has injected more than ₹3.6 lakh crore of durable liquidity into the banking system through debt purchases, forex swaps, and longer-duration repos. In January, the central bank took multiple steps to ease liquidity constraints, including variable rate repo (VRR) auctions of varying tenors and daily VRR auctions between January 16 and January 23.
Additionally, the RBI conducted a $5 billion dollar-rupee swap on January 31, open market operations (OMO) purchase auctions of government securities worth ₹60,000 crore, and scheduled a 56-day VRR auction in February to further address the liquidity crunch.