Rupee depreciation slows on RBI cues, dollar pullback; but pain not over, say experts

The rupee lost over 1 percent against the dollar in July, taking its fall in 2022 to 7.6 percent, as per Bloomberg data. This month’s depreciation was relatively less than June’s 1.7 percent decline. A combination of a record high trade deficit coupled with persistent foreign portfolio investor outflows and bets of an aggressive Fed had kept the dollar well bid.

The rupee breached the psychologically important level of 80 per dollar for the first time on July 19 and hit a lifetime low of 80.06. Since then, the rupee has appreciated slightly and now stands at 79.90 per dollar.

Also read: Rupee’s woes not yet over; oil, Fed cues signal further fall towards 81 to dollar, say experts

RBI intervention

According to forex market experts, one key reason that’s kept the rupee from staying above 80 levels is the way the RBI tackles wild swings in the market. The RBI, which intervenes to control sharp movements, has apparently sold dollars from its forex kitty to keep the rupee’s depreciation under check.

India’s foreign exchange reserves fell by $7.5 billion to $572.71 billion in the week ended July 15, the lowest in 20 months. RBI Governor Shaktikanta Das has repeatedly said that the central bank will not tolerate wild swings in the rupee’s exchange rate. On July 22, Das said India’s forex reserves were “adequate” and added that “you buy an umbrella to use it when it rains.”

Additionally, foreign outflows from India have slowed down. In July so far, foreign portfolio investors (FPIs) net sold $314 million from India’s equity and debt markets after pulling out a net $6.59 billion in June, according to data from the National Securities Depository Ltd.

“The pace of FPI outflows has reduced, making the RBI even more impactful,” said Anindya Banerjee, vice president, currency derivatives and interest rate derivatives, at Kotak Securities. “At the same time, a pullback in oil prices has reduced dollar demand. Exporter hedging has increased due to the weak rupee and an uptick in the forward premium.”

Further, the RBI’s recent measures to increase forex inflows to India have also been a sentiment booster to convey its presence in the market, if need be, said forex treasury officials.

“Even though the impact of the measures may not be visible in the immediate short term, it has deterred traders from shorting the rupee,” said a treasury official at a state-run bank. “There is a strong commitment from the RBI about not letting the rupee depreciate beyond limits and they will stick to it.”

Dollar pullback

Another factor in the rupee’s favour is the inability of the dollar index to sustain at higher levels. The dollar index, which measures the US currency against a basket of six currencies, hit a high of 109.29 on July 14, a level last seen on October 21, 2002, according to Bloomberg data. This was largely after hotter-than-expected inflation data raised bets of a higher-than-expected 100 basis point rate increase by the Fed at its meeting on June 26-27.

However, since then, some Fed officials have downplayed the idea of a 100 bps rate hike, weighing on the dollar index. Further, the European Central Bank’s 50 bps hike this month led to a further cooling off in the dollar index. The dollar gauge currently stands at 106.86.

“The US dollar rally may be poised for some cooling-off with most long-term cyclical indicators pointing to the same,” said Garima Kapoor, senior vice president – economist at Elara Capital. “Anchored inflationary expectations and downside drivers of inflation in the US suggest the dollar index may be nearing its peak.”

Kotak Securities’ Banerjee said that with the US economy beginning to slow and inflation near its peak, the worst of the Fed rate hikes is probably behind us. This means that even though there can be incremental depreciation in the rupee, the pace can be slow, Banerjee said. He expects the rupee to rise to 79 to dollar by September and further to 78.50 by December.

Also read: Explained | How can a deeper Fed rate hike impact India?

‘Lull before the storm’

However, some experts said the rupee’s current appreciation trend may be limited beyond a point. Sustaining an upside for the rupee may not be easy because cash dollar shortages continue and long term fundamentals like a widening trade deficit and current account deficit are still negative.

“Is the worst for the rupee over as yet? No – it seems to be just a lull before the storm,” said Amit Pabari, managing director at CR Forex. “Today’s currency's future expiry, Fed meeting or US GDP could be a triggering point for the rupee to break its range of 79.70 to 80.05.”

Any appreciation above 79.20 “seems unlikely” as importers will rush to cover their dollar positions and there could again be a move towards the 80 mark, added Pabari. Amid sluggish domestic fundamentals and a dollar crunch globally due to the Fed’s tightening, the rupee outlook remains bearish over the short to medium term. Pabari expects the rupee to trade at 80.50 to 81.50 levels till September.

HDFC Bank’s economist Swati Arora agreed with Pabari’s view.

“The worst doesn’t seem to be over for the rupee yet. The rupee is likely to remain under pressure vis-à-vis the dollar in the near term,” said Arora. “Foreign investment outflows and weak risk sentiment amid rising recession fears are likely to weigh on the rupee. Besides, if the Fed is more hawkish than market expectations then that could lead to a further depreciation in the local unit.”