Banking Central | India fighting a losing battle on the rupee front

The rupee is reliving its 2013 nightmare by falling free to record lows. It is now trading below 79 per dollar and has fallen about 6 per cent since the start of this year. That’s worrying both the government and the RBI. Too much weakness in rupee can be a shocker for imports, will have ripple-effects of inflation and put pressure on the current account deficit (CAD). The RBI seems to have already pressed the panic button. On 6 July, the central bank announced a series of temporary measures that are primarily aimed at attracting fresh fund flows into Asia’s third largest market. It allowed foreign investments in shorter-tenure bonds without any upper limit under fully accessible route, allowed banks to raise deposits from NRIs at a higher interest rates and raised external commercial borrowing limit for corporates under automatic route.

The RBI is following up with the government steps earlier wherein import duty on gold and oil were raised to cut CAD. Already, the central bank was active in the foreign exchange market intervening through state-run banks to curb volatility in rupee that is part of the reasons for the $40 billion dip in foreign exchange reserves over the last three quarters. The latest steps reminds one of RBI’s 2013 exigency plan under former governor Raghuram Rajan to arrest the then rupee crisis. Then too, the central bank announced similar steps to attract more foreign funds and support rupee. Question is, this time around, how long these steps can hold the freefalling currency.

Rupee is facing major headwinds from global factors. Foreign investors have been selling Indian equities heavily, wiping out a large chunk of inflows. FIIs sold around $28.37 billion worth of equities between January and June 2022. This is because investors are spooked by drying liquidity conditions across the globe as central banks are withdrawing the easy money and US Federal reserve is on a rate reversal path to contain inflation propelled by government spending. The war in Ukraine and a subsequent upswing in global commodity prices has added to the Rupee’s woes. The RBI-government steps can give some respite to Rupee in the short-term by arresting the deficit and drawing inflows. However, probably, these measures can only ease the immediate pain but not the inevitable. None of these measures are enough to reverse the Rupee’s course beyond the short-term. The local unit will have to find a new normal and a reluctant central bank will have to align its internal thinking accordingly.

(Banking Central is a weekly column that keeps a close watch and connects the dots about the sector's most important events for readers.)