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INDIA – SRI LANKA CURRENCY SWAP AGREEMENT WORTH USD 400 MILLION

Updated: Jun 24









Published by: Ria Khanna


Origins of Currency Swap Agreement

The financial swap was developed in the United Kingdom as a mechanism to avoid foreign-exchange controls in the 1970s aimed at preventing the outflow of British capital. At that point, the British Government imposed foreign exchange trades involving British pounds to make capital outflows more expensive and encourage domestic spending. Companies recurrently exploited successive loans during that period to avoid such taxes. The system of consecutive loans comprises of two businesses domiciled in two separate nations. One company would agree to borrow funds in its own country and then lend the borrowed funds to the other company. In return, the second company would borrow money in its own country and lend it to the first company. Through this, both companies would able to access the foreign capital market without formal currency exchanges, and thus, avoid any foreign exchange taxes.


Subsequently, this trouble-free arrangement developed into more sophisticated cross-currency swaps and interest rate swaps with banks and financial houses as intermediaries to bridge counterparties in need of such arrangements. Citicorp International Bank transacted the first formal currency swap, in contrast to the parallel loan structure used at the time, for a US$ 100,000,000,000 10-year US Dollar Sterling swap between Mobil Oil Corporation and General Electric Corporation Ltd (UK). The Citicorp International Swap unit developed the concept of interest rate swap, but the World Bank introduced cross-currency interest rate swaps in 1981, in order to obtain Swiss francs and German marks by exchanging cash flows with IBM. Salomon Brothers brokered this deal with a notional $210 million, and a term of more than 10 years.


What is a Currency Swap Agreement?

In a currency swap arrangement, one side decides to trade principal and to make daily interest payments in one currency to the counterparty for principal and occasional interest payments in another currency. It includes mutual exchanging of assets (the swap) between counterparties for certain comparable-value assets. Assets may be commodities or financial instruments that include interest rates, cash flows, foreign exchange, debt, or equity. A currency swap involves two parties who swap a notional principal with each other in order to obtain exposure to the currency they want. From the day of the notional exchange, periodic cash flows shall be exchanged in the appropriate currency.


SAARC Currency Swap Facility

SAARC FINANCE Group Meeting held in Washington DC on 25th September, 2011 passed unanimously the Memorandum on the SWAP Arrangement. Subsequently, it was sent for final approval to the 17th SAARC Summit in Addu Maldives on 10th November, 2011. During the summit, and due to its technical complexity, the Council of Ministers took notice of the issue; it was addressed to the 5th meeting of SAARC Finance Ministers held in Dhaka, Bangladesh on 30th January, 2012. As Chairman of SAARC FINANCE, Dr. Fazeel Najeeb asked the Indian delegation at the 5th SAARC Finance Ministers Meeting in Dhaka, Bangladesh to finalize the two remaining problems with respect to the SWAP Arrangement, one on the interest rate of the Indian Rupee and the other on the default settlement process.

The Indian delegation promised that these two issues would quickly be resolved. RBI had notified that the two issues will be addressed in the Indian Cabinet Committee and that information will be unveiled at the 24th SAARC FINANCE Group meeting to be held in Pokhara, Nepal, on 16th May, 2012.


In order to improve regional financial and economic cooperation, Dr. D. Subbarao, Governor of the RBI, declared at the 24th SAARC FINANCE Governors' Meeting in Pokhara, Nepal, that the RBI provided Swap Agreement of US$2 billion in foreign currencies and Indian Rupee. All SAARC member countries will have access to the facility. Swap Agreements were meant to establish a backstop line of financing for SAARC member countries to face any balance of payments and liquidity problems before long-term plans were established or when short-term liquidity was required due to strained market conditions.

Framework on Currency Swap Arrangement for SAARC countries for the period, 2019 to 2022


In January, 2019, the Cabinet Ministers gave approval to the amendment of the framework on currency swap agreement for SAARC member states. The amendment proposed to inculcate standby swaps of $ 400 million dollars out of the $ 2 billion dollar pie of the Currency Swap Arrangement within the said framework, so long as the member state enters into a bilateral swap agreement with central banks of the SAARC member states.

The RBI along with Government of India, in pursuance of the above stated approval has put forth a Framework Currency Swap Arrangement on 14th November, 2019 which is valid till 13th November, 2022. The same has been introduced due to increased economic risk and fluctuations in the global economy.


Why did Sri Lanka seek this Facility?

Over the past few years, the economic ties between India and Sri Lanka have become stronger. On 25th March, 2015 the Reserve Bank of India and the Central Bank of Sri Lanka entered into a Bilateral Current Swap Arrangement which was valid for three years. On 30th April, 2015, the Central Bank of Sri Lanka availed USD 400 million for three months which was rolled over for three months on July 30th, 2015. In addition to the abovementioned arrangement which falls within the SAARC Framework, RBI and CBSL signed special currency swap arrangement twice in July 17th, 2015 and March 29th, 2016.


In the wake of the COVID-19 Pandemic, most countries are grappling with various issues amongst which the plight of the economy is a major impediment to the day to day functioning of many nations. Sri Lanka’s economy has been gravely affected by the novel coronavirus. It is pertinent to mention herein that China has been one of the main investors in infrastructure project in Sri Lanka. However, the Sri Lankan Government has faced a backlash locally and internationally for their growing relations with China. Many opine that Sri Lanka has been “lured into a debt trap” by China, which also contributes to the ongoing economic crisis in the country. The tourism industry of the country has been badly hit which is a major source of revenue of the country.


In order to ensure financial stability, amidst the COVID 19 pandemic, the Central Bank of Sri Lanka is set to enter into a currency swap agreement with the Reserve Bank of India worth USD 400 million. In addition to the abovementioned amount under SAARC Framework, Sri Lanka has requested special currency swap worth USD 1.1 billion, however, no formal statement has been given by India with regards to the same. However, till date, India has been of aid to Sri Lanka in these trying times as they have provided them with medical supplies. Furthermore, India has also extended help to Maldives to help them sift through the ongoing COVID-19 pandemic and is set to enter into a Currency Swap Agreement with them worth USD 150 million.



References

  1. SAARC FINANCE, e-Newsletter, June 2012, Published by Governor’s Office Maldives Monetary Authority; A half-yearly publication of the regional network of SAARC Central Bank Governor’s and Finance Secretaries (SAARC FINANCE)

https://www.saarcfinance.org/June2012.pdf

  1. “Reserve Bank of India Announces SAARC Swap Arrangement” May 16, 2012, Pokhara, Nepal, Press Release:2011-2012/1817,

https://www.rbi.org.in/scripts/BS_PressReleaseDisplay.aspx%3Fprid%3D26475

  1. ”Cabinet approves Amendment to the ‘Framework on Currency Swap Arrangement for SAARC”

https://www.pmindia.gov.in/en/news_updates/cabinet-approvesamendment-to-the-framework-on-currency-swap-arrangement-for-saarc/

  1. Bhagavan Behera & Rajesh Trivedi,“Taming Currency Swaps to Curb India’s Current Account Deficit- A Kindle of Hope”,IOSR Journal of Economics and Finance (IOSR-JEF), e-ISSN: 2321-5933, p-ISSN: 2321-5925.Volume 3, Issue 1. Ver. I (Feb. 2014), PP 68-76

  2. Currency Swap Basics By Nick Lioudis,

https://www.investopedia.com/articles/forex/11/introduction-currency-swaps.asp

  1. “RBI signs Currency Swap Agreement with the Central Bank of Sri Lanka”, March 25, 2015, Press Release 2014-2015/2019,

https://www.rbi.org.in/scripts/BS_PressReleaseDisplay.aspx?prid=33544

  1. “RBI signs Special Currency Swap Agreement with the Central Bank of Sri Lanka”, July 17, 2015, Press Release: 2015-2016/165,

https://www.rbi.org.in/Scripts/BS_PressReleaseDisplay.aspx?prid=34481

  1. “RBI signs Special Currency Swap Agreement with the Central Bank of Sri Lanka”, March 29, 2016, Press Release: 2015-2016/2280,

https://www.rbi.org.in/scripts/BS_PressReleaseDisplay.aspx?prid=36597

  1. “Sri Lanka to seek 400 million financial facility from RBI to meet short term needs” ,Economic Times, April 24, 2020

https://economictimes.indiatimes.com/news/economy/finance/sri-lanka-to-seek-400-million-financial-facility-from-rbi-to-meet-short-term-needs/articleshow/75347534.cms?from=mdr

  1. “Sri Lanka requests India for currency swap arrangement of up to $1.1 billion” , Live Mint, May 23, 2020, https://www.livemint.com/news/india/sri-lanka-requests-india-for-currency-swap-arrangement-of-up-to-1-1-billion-11590252888557.html

  2. COVID-19: India extends USD 150 million foreign currency swap support to Maldives, The Indian Express, April 28, 2020,

https://www.newindianexpress.com/world/2020/apr/28/covid-19-india-extends-usd-150-million-foreign-currency-swap-support-to-maldives-2136548.html



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