India and Japan have agreed to ink a $3 billion bilateral currency swap pact aimed to prevent adverse contagion effects during crises fuelled by speculative investment.
The Union Cabinet on Thursday gave its approval for authorising the Reserve Bank of India (RBI) to sign the proposed agreement with the Bank of Japan.
“It is an additional arrangement outside IMF to meet for short term liquidity in US dollar during a balance of payment crisis,” an official spokesperson said after the Cabinet meeting.
“It is a cost effective tool of achieving the strategic objective of demonstrating regional cooperation,” the spokesperson said.
Both the governments have completed several rounds of negotiations on the issue. Once the agreement is signed, both the countries would be able swap foreign exchange reserves to counter speculative moves on their currencies.
Currency swaps involve an exchange of cash flows in two different currencies. By its special nature, these instruments are used for hedging risk arising out of volatility in the foreign exchange markets.
The agreement would effectively mean that Japan will accept rupees and give dollars to India up to a stipulated limit, and similarly India will take yen and send dollars to Japan if speculators seek to thrash down the respective currencies.
“The actual draw down will be effected by RBI when the Government judges that it should be drawn down, after consulting RBI,” he said.
Both the governments had formalised negotiations on the currency swap agreement in August 2007, during the visit of then Japanese Prime Minister Shinzo Abe to New Delhi.
The move might also open up a new window for Indian corporates to raise yen denominated loans at extremely cheap rates. The Japanese central bank have kept its interest rates nearly zero over the last ten years.
The East Asian countries and Japan have already signed currency swap agreements also referred as the Chian Mai Initiative, ostensibly to prevent a crisis that rocked the region in 1997 as many currencies went into a severe tailspin.