This year India is stuck in an unusual financial situation: It has more dollars than it has ever had and the rupee looks more fatigued than ever doing exactly what the dollars are supposed to prevent.

The headline figure is encouraging enough. The foreign exchange kitty of the Reserve Bank of India (RBI) had hit an all-time high of around $728 billion earlier this year, but fell to a one-year low in May near $681 billion, before recovering to pull up from the $700 billion level. The figure on paper puts India in the top four or five reserves holders in the world, just behind most emerging economies, and only a whisker away from its own all-time high. Cover for imports remains just under a year good for most finance ministries. However, if you ask any trader in Nariman point or Mumbai about the trend of the rupee in recent times, you will notice that the sentiment is far from happy. The currency has been on a tear to its weakest on record in recent weeks, trading near the 90s to the dollar, with little to do with a shortage of dollars, and much to do with the currency's deployment.

It's really the size of the reserves relative to the currency. The two forces that have caused the most damage are. The first is oil. The renewed spate of attacks in the Gulf by Houthis on tankers off the Saudi coast and by American military action against Iran pushed prices of Brent crude up above the $100 mark for the first time in years, which is a frightful development for an oil importer of about 85 percent of its crude requirements. Every dollar that goes into the oil bill is a dollar that the RBI has to provide, either in the spot market or via the public-sector banks, in secret. The second is trade policy. At an especially fraught time, as Washington and New Delhi are both pushing for a temporary trade deal, the U.S. slapped new tariffs of 10 to 12.5 percent on products from dozens of economies including India under its forced-labour law. Both sides are still keen on signing a deal, but the slow and time-taking negotiations have been a source of currency stress on both sides, with foreign portfolio investors (FPIs) withdrawing funds from Indian equities every time a negotiating process is delayed, as was seen in recent talks between Commerce Minister Piyush Goyal and the US Trade Representative in Delhi.

The difference this time round is that the only way to ensure a slide is orderly rather than disorderly is to intervene on a bigger scale. The RBI's net-short dollar forward book, which is essentially a rolling average of dollar-selling obligations based on the central bank's data, rose to a record high of $106.7 billion in May from less than $68 billion at the beginning of this year, according to Bloomberg calculations. It is a very high burden for any central bank to carry such a large defence posture and now it has become an even bigger headache for the RBI than the name of the reserve number indicates, to unwind it without disturbing the market. The rupee's losses have been partially recovered as a result of spot-market dollar sales on back-to-back trading days up to the end of July. The Federal Reserve's failure to raise rates despite three dissenters urging for an increase, and a 30-year U.S. Treasury yield at two-decade highs, have kept the dollar bid on the world stage, with little space for the rupee to find its footing on its own.

There's a more muted, more structural narrative underneath all this and it's about gold. The RBI's gold reserves have risen in value by over doubling in the last two years on price growth; at the same time, the central bank has been piling more tonnage into its vault which has helped it maintain the overall figure of gold in the reserves even during the rupee crises of the last two years, albeit not everyone has realised the impact. It's no accident that Indian households are doing the same, leveraging their most secure form of wealth, gold, into cash and not selling it outright and thereby converting a family's most reliable store of value into a financial asset just at the time their real incomes are taking a hit from fluctuations in the currency. The instinct, triggered by the same thoughts in RBI vaults and in the millions of households' lockers, speaks to the true nature of rupee-hedging by Indians when formal financial products seem too complicated or too slow. It is important for policymakers to keep an eye on the fact that gold-backed money, both government and retail, is taking the rough and tumble of interest rate policy and forex interventions without making a peep.

The takeaway for businesses and households for now is quite simple. The lower rupee rate will impact the cost of imports of oil, electronics and other consumer goods, while lending an upward momentum to exporters like IT services, pharmaceuticals and textiles, some of which are already reaping the benefits. This current account strain from costly crude is being balanced by steady software export earnings and remittances received from expatriates. Until the oil price shock subsides or the US-India trade pact takes effect instead of just being discussed, the rupee is expected to remain on a fragile footing, no matter what the reserves size is. In essence, India has no dearth of dollars. It is not a foregone conclusion and no hole, no matter how deep, is a complete replacement for it.