Critically evaluate the instruments available to RBI for managing exchange rate volatility, with reference to the 2026 forex swap facility.

Under FEMA, 1999 the RBI does not target a fixed rupee level but intervenes only to curb excessive volatility. Its 2026 response to rupee depreciation — a concessional USD-INR swap window alongside conventional tools — shows both the strength and the limits of this toolkit.

Instruments available to the RBI

• Spot and forward market intervention: direct dollar sales to defend the rupee — the main route used in early 2026, which drew reserves down amid West Asian conflict-driven pressure.
• Foreign exchange reserves as a buffer: foreign currency assets, gold, SDRs and the IMF reserve tranche, reported weekly in RBI's Weekly Statistical Supplement [1].
• Capital-flow instruments: calibrated easing of FCNR(B) deposits, External Commercial Borrowings and Overseas Foreign Currency Borrowings to pull in non-debt-creating and concessional inflows [2].
• Monetary tools: policy rate and liquidity operations that alter the interest-rate differential and hence carry-trade flows.

Merits demonstrated by the 2026 swap facility

• Operationalised on June 8, 2026, it offered a par/concessional swap on fresh FCNR(B), ECB and OFCB inflows with minimum three-year maturities and a five-year swap cap — a targeted, time-bound window rather than open-ended intervention [2].
• It mobilised inflows on an unprecedented scale [3], helping reserves reach an all-time high of about $785.7 billion, with a record weekly rise of roughly $44.9 billion in the week ended September 4, 2026 [1].
• It rebuilt reserves without burning them, and was backed by government–bank coordination [4].

Limitations

• Reserves were replenished largely through debt-creating liabilities; FCNR(B) and ECB flows must be repaid or rolled over, creating a future redemption hump.
• Such windows are episodic and subsidy-bearing, shifting exchange risk onto the central bank's balance sheet.
• They treat symptoms, not structural drivers — trade deficits and import dependence on crude.

Overall, the swap facility was an effective stabiliser but not a substitute for structural resilience. A durable rupee rests on export diversification, deeper domestic bond markets and steady FDI, with intervention reserved for disorderly movements — reserves being the cushion, not the cure.