The rupee clearly dominated headlines and mind space this week. The currency not only set new lows most days of the week, it fell with such rapidity. Currently it is down 3.12% on the week and 14% year-to-date (YTD) i.e. April 1. That compares with only a 0.2% gain in the Nifty this week and just a 2.8% fall YTD i.e. April 1.
The rupee’s fall is intriguing since it has come despite a 27% fall in crude prices from April 1 i.e. YTD. So why is the rupee getting singled out for such attacks? How will other macros in the country like the current account deficit and fiscal deficit change because of the rupee? More importantly, where and when does the rupee’s fall get arrested?
CNBC-TV18’s Lata Venkatesh speaks to Samiran Chakraborty, chief economist at Standard Chartered Bank, Ajit Ranade, chief economist at AV Birla Group and Moses Harding head of treasury at IndusInd Bank to discuss the challenges ahead for the rupee.
Below is an edited transcript of their interview. Watch the accompanying videos for more.
Q: The stock market has fallen barely 3% from March 31 for the year FY13 and on the week actually it’s a minor gain. Why is it that the rupee has fallen actually by about 14% YTD? In the stock market, people are giving credit to the fact that lower commodity prices, in particular crude is going to improve margins, OPMs and therefore EPS. Should not the same credit be given to the rupee? Why is the rupee such a rank underperformer?
Chakraborty: The focus of the market at this point in time is not on crude at all from the FX market perspective. It’s more looking at global events and event risks globally. Partly also looking at the dollar strength across the board that is impacting the rupee and partly the issue of a fear of a ratings downgrade, a balance of payment (BoP) crisis situation, a kind of macro instability.
All these are affecting investor sentiment on the FX market particularly. The fact that there has not been very strong intervention from the RBI to stem the rupee depreciation has kind of fuelled the idea that possibly the central bank is okay with some amount of rupee depreciation. All of these factors are primarily driving the FX market dynamics which at this point of time is focused on oil.
Q: The RBI governor in the monetary policy statement and his post-statement speech seemed to indicate that rupee depreciation has a growth boosting dimension to it, giving an impression that the RBI is okay with it and its actions also seemed to indicate that. Is the RBI intervention the big reason or are there other concerns that FII flows may vanish or why aren’t exporters selling?
Harding: The exchange rate movement comes from four quarters. One is the day-to-day flows from the corporate, then the capital flow from FIIs and the third is the un-hedged portion of the foreign currency liabilities. Fourth is the most important which gives the value to the rupee on a forward basis. So that gets into the sentiment angle. The forward segment can be a demand or supply driven mode which again carries over to spot.
A combination of all these forces provides direction to the spot rupee. When you say it’s not in relation to the Sensex it means that FII flows have come in into the Sensex whereas the spot demand and forward demand has been more on the exchange rate margin. That’s why there is no correlation. I think ideally rupee weakness is good for the economy as long as current account is positive along with low inflation.
Q: At 57, why is it exporters are not coming and selling? At some level, one would think it will balance out. On Friday did you notice that?
Harding: Two things here. Number one, you don’t know where the bottom is, whether it’s 57 or 60 or 65, nothing, because we have not seen the RBI’s verbal intervention. Nobody talked from the RBI or the ministry when the rupee broke 57. Number two, exporters are already short all the way from 44 and they are taking a P&L knock on the mark-to-market. Now there is a trade-off between whether I look at the exchange rate hedge or I cover my P&L. In that case, people prefer to protect P&L rather than covering their exchange rate risk.
Q: From the point of view of India Inc. the Reserve Bank Governor painting a macro brush said that rupee’s depreciation is growth boosting, that is something which as an economist you will always be looking at. But as a person who sees corporates at close quarters, is it really positive?
Ranade: The big reform in 1991 apart from the Industrial De-Licensing was actually freeing the rupee. The rupee was actually severely devalued from roughly 15 to 30 in one go. If you take the rupee at 31 in 1991 and today at 57, over the 21 years it’s moved by less than 100% and that works out to be at an annual average depreciation of 2.6%. From that perspective it is in fact an inflation differential between the US and India.
If we see, the 1991 reforms as essentially promoting economic reforms and industrial activity in India, in a way by stealth this 20% depreciation in the last 12 months actually almost tells us that some kind of reforms have taken place. That is one way of looking at it. Out of imports, the three items i.e. gold, oil and capex take up almost 64-66% and these three are somewhat price insensitive. Therefore, the import demand tends to be somewhat inelastic although capex has now been postponed somewhat.
Q: Do corporates genuinely feel there is a bit of protection when the rupee depreciates? You have Hindalco in your group, so after all landed cost of aluminum, steel, hot roll coils etc, a whole host of them will be easier to tackle?
Ranade: Exactly. So people focus on exports. Even if you are not in the export sector, the threat of cheaper imports which have been flooding our country or there are concerns about anti-dumping and so on, to that extent it becomes a competitiveness booster. This 20% depreciation also has impacted the domestic industry. Therefore I think on balance it has a growth inducing impact.
There are some parts of the economy which are very vulnerable and oil imports are clearly one. But as you said oil prices are down by 37% since March, Brent and crude. The rupee is down only 9% since March. So at least on that count we seem to be doing okay.
Q: Since the rupee is really the medium of exchange, the measure of all value in the economy it cuts through all macro economic parameters when it falls. Tell us how do things get better or worse- for instance for the current account deficit itself?
Chakraborty: Yes, but my sense is there is both in theory and in practice a lagged effect of currency depreciation on current account deficit. So the beneficial effect might take some time to filter in. The other challenge is that since we are anyway working in a global environment which is slowing down very substantially even with a weaker rupee will it be possible for us to export more, is a question that I have.
As we were seeing if you take between April to September 2011 export growth was 41%, between October and March export growth was 7% although rupee depreciated very substantially over this period. It is not that the effect of rupee depreciation is felt immediately on exports. The exports might actually come down because of a global slow down.
Q: We know that gold imports through other controls have been rendered less, have declined because gold prices have fallen. Considering that, what do you expect will be this year’s current account deficit and then allied question therefore do you think the rupee has fallen enough?
Chakraborty: Most of the analyst we are working with a trade deficit number of more than USD 200 billion. If crude stays at USD 90 per barrel, all of us will have to pare down our trade deficit numbers more closely to the USD 170-175 billion mark. As soon as we do that even with reasonable projections on the capital good account the BoP might turn from a deficit to a surplus.
When this information is processed by the market the market will be convinced that the decline in oil prices is for good, only then we can see the fear of this BoP crisis evaporating from the market and that leading to sustained rupee appreciation but our commodity analysts feel that the oil prices might not stay at such low levels for a very long period of time which is why we are not at this point changing our trade deficit forecast but working with a relatively weaker rupee assumption in the near-term.
Q: On Friday, the RBI seemed to indicate to let the rupee take its course – do we think 57 can stabilise? Where do you see it stabilising?
Harding: Actually, pre-monetary policy, I was looking at the rupee toppish between 56 and 57. On CNBC-TV18 earlier, I have said that 56-57 it is very risky to be long dollars but that is post policy jitters. Now that the RBI has fixed different benchmarks of elevated headline inflation both wholesale and retail, and inflation at just a borrowing cost, these numbers are going to stay elevated for sometime. There is going to be an extended pause in monetary policy.
That has hit the confidence level. I feel this is one of the reasons for the rupee to fall. Until the RBI changes its stance to pro-growth policy, I think there will be pressure. Market will not look at the benefit of the crude oil price in the current account deficit. The market is one way; most of the forward dollar demand has not been uncovered so there will be pressure on the forward market. It will be demand driven mode and my near-term range will be around 55.5 to 58.5.
Q: Do you think there are still any levers that the RBI can open? In December, they allowed market pricing of interest rate that can be paid to NRI deposits. One expected a great deal of money to come but it looks like the rupee is seriously weak. In spite of the money weakness continuing, are there any further levers that the RBI can open or will it be only debt flows which are a dangerous way to go?
Ranade: Since you mentioned NRIs remember we did those two issues in 1998 and 2003 roughly USD 5 to 10 billion. So since if NRI deposits are a huge source of mopping funds surely the bonds pitched at the NRI dais which is almost 25-30 million people could be one possibility.
If oil prices stays and that is a big if at around USD 90 per barrel or even lower that has four different positive implications for a lower current account deficit, perhaps lower inflation, lower fiscal burden because it is directly linked to oil subsidy and fertilizer subsidy. Therefore, as a consequence, all these three perhaps lower interest rates. That itself is a positive for the economic outlook and if that translates into renewed inflow of capital funds that should see some pressure easing off.
Q: With this one item crude getting a little corrected, do you think things can only get a little better at least from hereon?
Chakraborty: Definitely. The effect of a lower crude generally is felt on the trade deficit number with a little bit of lag maybe two-three months. Possibly we are waiting for that effect to come in. I am closely watching the monthly trade deficit numbers. If I see this number slipping in the USD 13-14 billion range, I would start becoming more convinced about rupee appreciation.
Whether we can stay in a situation of a risk-off global sentiment driving commodity prices down versus risk-on sentiment taking rupee appreciation stance, I think there is a disconnect there. If there is a risk-off sentiment then both rupee will be impacted as well as oil. If there is a risk-on sentiment then possibly both will be impacted positively. Let’s see whether the risk-off guys win or the risk-on guys win.
Q: What’s your idea of where the rupee might turn? Is it 57-58?
Chakraborty: We had a June end forecast of 58 on the rupee. The turn of events seems to be supporting that view. We think that the broad range would be about 55.5-58 for the rest of the year, could even cross 58 on the upside. There are two big things that we are looking for. One is oil and the other is that to what extent we get sound bytes on the rating process for India. To our mind, that’s going to be a very critical development for the currency markets as a whole.
Q: Would you agree that we are somewhere close to the bottom in the rupee? I was looking at the REER table, the Real Effective Exchange Rate which even the governor put up in his speech indicates that the six country REER now is almost at 100, if not a tad lower after the seminal depreciation of the last two days. I think with the 36 country comparison we would be undervalued by about 12-13%, so some confidence?
Ranade: I think so. I strongly feel it’s going to reverse. There maybe a lagged effect, but certainly a lot of the economic fundamentals are pointing towards a reversal in the rupee.
Lata: That is very important. All our three experts telling us that perhaps we have seen the worst in terms of the rupee and if we are able to see a disconnect as Samiran called it and crude is at sub-USD 100 levels probably the worst is over for the economy and for the currency.