Foreign exchange reserves can include banknotes, deposits, bonds, treasury bills and other government securities. These assets serve many purposes but are most significantly held to ensure that a central government agency has backup funds if their national currency rapidly devalues or becomes all together insolvent.

Why RBI keeps foreign exchange reserves?

In the past, the RBI has tightened monetary policy and used capital controls in order to prevent the rupee from falling, instead of selling off its billions. The central bank does not want the rupee to appreciate as that makes exports uncompetitive. Hence it intervenes in the forex market to buy dollars.

Why does RBI hold gold reserves?

A part of gold was used by RBI (in parallel with gold with Government) for raising foreign currency resources during the balance of payments crisis in the early 'nineties. These overseas gold holdings are being used as part of reserve management to yield a return.