RBI’s Dollar Buffer Buys Time, Not External Resilience

The Reserve Bank of India’s decision to close its foreign-currency swap scheme ahead of schedule may appear to mark the successful completion of an emergency operation. The programme had mobilised $72.8 billion by August 22, and the broader effort was approaching its reported ceiling of about $80 billion. It has given the central bank a larger pool of dollars with which to manage the rupee after a prolonged depletion of reserves. But the early closure also points to the limits of the strategy. Once enough foreign-currency liabilities had been raised to restore the RBI’s intervention capacity, the cost of mobilising additional funds became increasingly difficult to justify.

The scheme has rebuilt the RBI’s ability to contain disorderly currency movements. It has done so, however, by replacing depleted reserves with expensive foreign-currency liabilities, not by strengthening India’s ability to earn foreign exchange. With durable capital inflows thinning, services exports losing momentum, manufacturing competitiveness weak and the trade deficit widening, the programme can defer external adjustment, but cannot eliminate it. The policy challenge is therefore to revive productive investment and export capacity, rather than repeatedly borrow dollars to defend the currency.

India’s headline growth performance has obscured a fragile external position. The country recorded an overall balance-of-payments deficit of $23.6 billion in 2025-26, the largest in two decades. During April-July 2026, we estimate that the current-account deficit widened to about $50 billion. Even after accounting for capital and debt inflows, the overall balance-of-payments deficit was an estimated $22.3 billion.

The gap between the dollars mobilised and the increase in the RBI’s foreign-currency assets is also revealing. Between June 5 and August 14, the RBI’s foreign-currency assets rose by $38.4 billion, while $56.8 billion had been raised under the programme over the same period. The difference suggests that the economy continued to lose foreign exchange even as the swap scheme replenished the central bank’s balance sheet. The mobilisation should therefore not be read simply as evidence of abundant investor confidence. It was also an attempt to prevent a much sharper external adjustment.

Costly Insurance
The programme has nevertheless achieved its immediate objective. Foreign-currency deposits of around $73 billion, together with roughly $7.5 billion raised through other overseas borrowings, could lift the RBI’s foreign-currency assets to about $626 billion. That would restore them to around their September 2024 peak and substantially rebuild the central bank’s capacity to intervene in the currency market. It is a reserve rebuild, however, rather than reserve creation.

Banks offered non-resident Indians dollar deposit rates of around 6.5%, supported by an RBI subsidy covering about 3.5 percentage points of the cost. When the leverage extended against these deposits is taken into account, the effective gross cost to the financial system is estimated at about 11%. The potential return to leveraged depositors could be close to 14% over three to five years.

The direct economics may remain manageable for individual banks, but the economy-wide ledger is considerably less favourable. The RBI invests most of its foreign-currency assets in relatively low-yielding deposits and sovereign securities. Its average return on these assets is far below the effective cost of the funds being mobilised. After allowing for the income earned on the additional reserves, we estimate an annual net carry cost of about $5.7 billion. A larger reserve buffer provides protection against external volatility, but this protection comes with a substantial recurring cost.

There is also a maturity risk. India could be left servicing expensive, long-duration foreign-currency liabilities even as the RBI draws down the newly rebuilt reserves to manage renewed pressure on the rupee. If global interest rates rise or capital flows weaken again, the buffer could diminish much faster than the underlying liabilities.

This is why comparisons with 2013 can be misleading. During the taper-tantrum episode, India raised about $34.3 billion through a similar mobilisation, after which the rupee appreciated by roughly 10%. Foreign direct and portfolio investment flows were also supportive. This time, the amount mobilised is more than twice as large, but the rupee has continued to weaken towards ₹96-97/$. The outcome indicates that the stock of reserves alone cannot determine the currency’s direction. Productivity, trade competitiveness, inflation differentials and the quality of capital inflows matter at least as much.

Structural Weakness
The composition of foreign capital has become less favourable. Multinational companies have not reinvested their Indian profits at the required scale. Income repatriation was an estimated $48 billion in 2025-26, while 57-63% of gross foreign direct investment was effectively redeemed during 2024-25 and 2025-26. Indian companies have simultaneously increased their overseas investments, while foreign portfolio flows have remained intermittent.

India has consequently become more dependent on non-resident deposits, bank borrowing and other forms of external debt rather than durable equity capital. Debt can replenish the balance sheet quickly, but it carries a fixed cost and must eventually be repaid. It does not provide the productive capacity or lasting investor commitment associated with long-term equity investment. The swap mobilisation has reinforced this shift towards borrowed capital.

The weakness is equally visible in trade. India’s trade deficit has widened to around 10% of gross domestic product despite subdued private demand and private capital expenditure. Services exports, traditionally the main cushion against the merchandise deficit, have begun to lose momentum. India’s trade surplus with the US fell from about $41 billion in 2024-25 to $34 billion in 2025-26, while the deficit with China widened to around $112 billion and is annualising at about $120 billion in 2026-27.

Currency depreciation has not produced the expected export response. India’s real effective exchange rate has fallen sharply, but the manufacturing sector remains heavily dependent on imported inputs. Raw-material import intensity is estimated at about 33%, while export orientation is only around 6.5%. A weaker rupee therefore raises production costs for large parts of industry and can reduce margins before it improves export competitiveness. Depreciation risks creating a cycle of higher input costs, weaker profitability and further currency pressure.

The swap scheme also allows the RBI to preserve relatively easy domestic financial conditions and defer a sharper monetary adjustment. That can be useful during a temporary external shock. But monetary accommodation has not yet produced a broad revival in private capital expenditure or strengthened household balance sheets. If additional liquidity instead supports leveraged and import-intensive consumption, it can widen the trade deficit and increase the external imbalance that currency intervention is intended to contain.

A stronger reserve buffer is valuable when capital flows are volatile and geopolitical risks are elevated. It should not, however, be mistaken for a stronger external economy. India needs to revive private investment, rebuild manufacturing and export competitiveness, attract more durable equity capital and allow the exchange rate greater flexibility. Otherwise, each episode of currency management will deplete reserves and eventually require another round of expensive foreign borrowing.

The scheme has deferred the immediate adjustment. It has not reduced the need for structural repair.