by The Indian Economist — this post authored by Indroneel Das

India has been a part of global news lately, for all the right reasons. India has evolved from being just another ‘developing nation’ to an emerging global power. While this implies political, military and economic connotations, let us focus on the latter. Very recently, India’s forex reserves skyrocketed by $4 billion USD, touching a new high of $381 billion USD.

While this is a monumental event, what opportunities does this overflowing chest of forex reserves offer to the country? What are the opportunity costs? Like any economic development, this event also has its share of pros and cons. The specific impacts and the immensity of the $381 billion USD worth of forex reserves must be put in perspective by considering the Indian context.

Reasons for the build-up of forex reserves

The build-up of forex reserves is linked to the inflow of foreign currency. This foreign currency is predominantly the US Dollar: the currency that the world transacts in. There are several reasons for the inflow of foreign currency into India. Firstly, being a strong emerging market, India finds favour among foreign investors as an investment destination.

India has the third largest start-up base in the whole world.

Secondly, with a young population and rapid reforms by the government, the business environment is extremely conducive. Thirdly and most importantly, Indians are becoming truly global in their lifestyle habits, now more than ever. India is also a hub for both MNCs and startups. In fact, India has the third largest start-up base in the whole world. Foreign investors are investing into both Indian MNCs and lately, into startups too.

How does forex enter the economy?

Foreign investments can be made through Foreign Institutional Investments or Foreign Direct Investments. Foreign Institutional Investments (FII) primarily involve channelling investments through the capital market in the equity or debt of companies based in India. This is the most convenient way for a large foreign investor to invest in promising Indian companies without having to ever set foot here.