harun r khan : indian foreign exchange market – recent developments and the road ahead inaugural address by mr harun r khan, deputy governor of the reserve bank of india, at the 25th annual forex assembly, organized by the forex association of india ( fai ), gurgaon, 4 october 2014. * * * accompanying box can be found at the end of the speech. the speaker acknowledges contributions of shri sudarsana sahoo, shri anand prakash & shri surajit bose of the reserve bank of india. 1. it is indeed a pleasure to address the trading professionals in the indian foreign exchange market at the forex association of india ’ s 25th annual forex assembly. the emerging and enchanting city of gurgaon provides the right backdrop for holding such a conference as this city epitomizes phenomenal growth and development symbolizing the best of “ made in india ” and “ make in india ” and in a similar vein the indian forex market has also witnessed tremendous growth and development in terms of depth and breadth, particularly since the adoption of market determined exchange rate regime about two decades ago. 2. the exchange rate of rupee has witnessed both periods of intense volatility and periods of stability since may 2013 when the fed chairman bernanke first hinted at early tapering of fed ’ s quantitative easing ( qe ) programme. against this backdrop, i would like to start my address by briefly touching upon the developments in the domestic forex market, especially after chairman bernanke ’ s testimony, and the measures taken by the rbi to restore orderly conditions in the market. then i would also like to focus on the possible risks to the stability of the forex market going forward and how well is india placed now as compared to 2008 and 2013 to cope with large capital outflows if they were to materialize. finally, i will discuss some of the major issues and concerns pertaining to the indian forex market which are presently engaging the attention of the policy makers. developments in the forex market 3. in the aftermath of the global financial crisis and the eurozone debt crisis, emes including india faced enhanced uncertainty, especially in the external sector on the back of both local and global developments. the worsening of india ’ s external environment was amply reflected in the deterioration in various external sector vulnerability indicators between endmarch 2011 and end - march 2013. the external debt to gdp ratio increased from 18. 2 per cent to 22. 0 per

##ncies like brazilian real, turkish lira south african rand, indonesian rupiah and russian rouble. the daily volatility ( annualised ) of rupee during the period from january 1 to september 30, 2014 remained at 5. 9 per cent as against south african rand ( 11. 5 per cent ), brazilian real ( 10. 8 per cent ), turkish lira ( 10. 6 per cent ), russian rouble ( 9. 9 per cent ) and indonesian rupiah ( 6. 9 per cent ). in terms of pointto - point variation, rupee has marginally appreciated by about 0. 5 per cent during the above period, while other currencies have witnessed depreciation, viz. russian rouble ( 16. 9 per cent depreciation ), south african rand ( 7. 4 per cent ), turkish lira ( 5. 8 per cent ) and brazilian real ( 3. 4 per cent ). the contagion effect of sharp fall in argentine peso against the us dollar in the second half of january 2014 also did not have any major impact on the rupee. even the recent geo political crises in ukraine, iraq and gaza did not have any significant impact on the indian financial markets. this has led to some analysts describing indian rupee as the most agile out of the fragile currencies of emes. bis central bankers ’ speeches 9. the fact that weak macroeconomic fundamentals have a tendency to accentuate the contagion effect of any adverse external development was amply demonstrated during the may - august 2013 episode of volatility. countries with large macroeconomic imbalances, especially large cad, such as, brazil, turkey, india, indonesia, etc., experienced much larger volatility as compared to other edmes with current account surplus / better fundamentals. in a scenario of intense volatility, traditional monetary policy defence at times proves inadequate as was experienced by other edmes like turkey and indonesia. thus, a mix of measures, including administrative measures, coupled with effective communication by central banks helps in containing the exchange rate volatility. i feel that the main lesson from this episode of volatility for an emde central bank is to have sufficient tools in its toolkit and employ them in a flexible, proactive and pragmatic manner. in this context, having large forex reserves, which was earlier considered wasteful on account of quasi fiscal costs, has