The Reserve Bank of India (RBI) suffered a loss of over ₹94,000 crore in FY22 on its foreign investment accounts, treasury returns on foreign securities, mainly US treasury bills, having risen amid growing signs of accommodative monetary policy tightening by the US Federal Reserve and other global central banks. Since prices and yields move in opposite directions, when bond yields rise, prices fall. As a result, the RBI had to experience a loss in market value on its portfolio.
The RBI Annual Report for FY22 indicates that foreign date securities are marked to market on the last business day of each week ending Friday and the last business day of each month and that gains/losses not realized therefrom are transferred to the Investment Foreign Securities Revaluation Account (IRA-FS). The IRA is a cushion against changes in security prices during the holding period.
Following the surge in yields, the IRA-FS balance fell from ₹8,853.67 crore as of March 31, 2021 to ₹94,249.54 crore as of March 31, 2022, following an increase in yields on all maturities in all major markets.
The benchmark 10-year US Treasury yield started 2021 at 0.91%, peaking at 1.77% in March 2021 and ultimately ending the year at 1.51%. But, by March 2022, the yield had risen further to 2.33% as inflation hit a four-decade high in the United States even as Russia unleashed a geopolitical crisis.
Consequently, the central bank’s expenditure increased from ₹34,146 crore in FY21 to ₹1,29,800 crore in FY22, as it had to transfer ₹1.1 lakh crore to the fund plan during the year to clear a debit balance of ₹94,249.54 crore in the IRA-FS. As a result, the fund balance increased to ₹3,10,986.94 crore from ₹2,84,542.12 crore as of March 31, 2021. The fund charge is waived on the first business day of the following year.
The Contingency Fund is a specific provision created to deal with unexpected and unforeseen contingencies, including depreciation in the value of securities, risks arising from monetary policy/exchange rate operations, systemic risks and any risk arising from special responsibilities imposed on the RBI.
In March 2022, India was the 13th largest holder of US Treasuries with net exposure of $199.8 billion, significantly lower than the $220 billion seen in June 2021. It is unclear whether the fall is due to the fall in the prices of US Treasuries. or if the RBI proactively sold treasury bills on the open market.
As a result of the losses, the IRA-FS account balance is zero. “There is now precisely no buffer,” said Josh Felman, director of JH Consulting, the Washington DC-based macroeconomics consultancy, and also a former India representative of the IMF from 2006 to 2008. Rupees (IRA-RS) also fell – from ₹93,415 crore in March 2020 to ₹18,578 crore. Felman believes that as interest rates continue to rise, provisions will skyrocket. “So RBI earnings are really going to crash. Consider yourself warned,” Felman tweeted.
However, with the 10-year yield falling to 2.745% on May 27 from a high of 3.106% seen a few days earlier – its highest level since 2018 – the RBI is not expected to suffer major losses as she did in FY22. “With yields cooling, I don’t see the RBI incurring significant losses in FY23,” says Madhavi Arora, an economist at Emkay Global Financial Services.
Although the Fed raised interest rates on May 5, marking the biggest hike since 2000, Chairman Jerome Powell said a 75 basis point hike was not something the Federal Open Market Committee “actively considering”.
A deadly concoction of soaring US yields and the Russian-Ukrainian conflict has caused India’s foreign exchange (forex) reserves to plummet from their record high of $642.45 billion in September 2021 to $597.5 billion during the week ended May 20, 2022. In fact, since the beginning of the Russian-Ukrainian conflict the last week of February, reserves have been steadily falling even as the rupee fell to 77.57 against the note green.