Rupee volatility surge puts RBI’s currency strategy in focus

Sanjay Malhotra, governor of the Reserve Bank of India (RBI), during a news conference in Mumbai, India, on Wednesday, Dec. 11, 2024. India’s newly-appointed central bank governor Malhotra said he will look to uphold stability and continuity in policy in his role.

A gauge of the Indian rupee’s volatility jumped to its highest level in over a year, as speculation grows that the nation’s central bank may be easing its tight grip on the currency amid a strong dollar.

The rupee’s one-month implied volatility versus the greenback rose to as much as 4.09% on Monday, the highest since August 2023. This marks a shift from the currency’s recent stability, which saw the volatility gauge hit a record low this August. Traders say the spike suggests a possible shift in the Reserve Bank of India’s strategy.

“The RBI may actually allow a little more volatility given the various risks of low volatility such as complacency in terms of domestic hedging activity,” said Mitul Kotecha, head of Asian FX and EM macro strategy at Barclays Bank Plc. Also, “capping INR volatility means that the currency may not adjust as quickly and could be prone to eventually larger moves.”

The new RBI Governor Sanjay Malhotra, who took over from a regime known for intervening firmly in the currency market, has yet to comment on the central bank’s foreign-exchange strategy.

“There’s some change in policy happening especially after the leadership change at the RBI, but that had been in the offing for a while,” said Dhiraj Nim, economist at Australia & New Zealand Banking Corp. “The domestic growth slowdown to global headwinds, everything is possibly pointing to a weaker rupee from hereon.”

The rupee fell as much as 0.7% versus the dollar to a new low on Friday, with the currency capping its worst week since March. The currency took almost 14 months, from September 2023 through October 2024, to weaken from 83 to 84 per dollar. In contrast, it took just two months for the currency to fall past the 85 mark.

To be sure, the rupee is still firmly placed in the list of low-volatility currencies, ranking below the Chinese yuan, the Malaysian ringgit, the Indonesian rupiah and the Philippine peso in a Bloomberg index. The rupee has weakened 2.8% versus the dollar so far in 2024, faring better than most Asian peers.

Still, the pressure on the yuan, concerns over potential US tariffs and slowing local growth pose headwinds for the rupee. Additionally, India’s 40-currency trade-weighted real effective exchange rate, a measure of competitiveness, hit an all-time high of 108.14 in November, indicating an overvaluation of more than 8%.