Source: ET
Context:
The Reserve Bank of India (RBI) is facing early signs of liquidity strain among banks. Surplus funds with lenders have fallen sharply from ₹4 trillion in early August to about ₹1.3 trillion ($14.3 billion) in December 2025.The 10-year government bond yield has risen by ~10 basis points since RBI cut policy rates on 5 December, signaling tightening market conditions.
Currency Swap
A currency swap is a financial agreement between two parties to exchange principal and interest payments in different currencies over a specified period. Central banks, like the Reserve Bank of India (RBI), often use it as a tool to manage liquidity and stabilize the currency.
Key Features of a Currency Swap
- Exchange of Currencies:
- One party provides a certain amount in its currency (e.g., rupees), while the other provides an equivalent amount in a foreign currency (e.g., U.S. dollars).
- Reversal Agreement:
- At the end of the swap period, the parties re-exchange the principal amounts at a pre-agreed rate.
- Interest Payments:
- During the swap, interest may be paid in the respective currencies according to the terms of the agreement.
Why RBI Uses Currency Swaps
- Inject Liquidity: When RBI buys dollars from banks against rupees, it injects rupee cash into the banking system, increasing liquidity.
- Support the Rupee: Helps stabilize the exchange rate by managing the supply of foreign currency in the market.
- Manage Market Rates: Helps control short-term interest rates and credit availability.
