Despite pressures, the rupee’s remarkable resilience

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Despite pressures, the rupee’s remarkable resilience

  • The Indian rupee has depreciated by around 7% against the U.S. dollar in response to various domestic and global factors.
  • The recent geopolitical tensions, ‘a strengthening dollar index, and continuous sell-off by foreign portfolio investors have all put pressure on the rupee leading to widening current account deficit(CAD).

Safe-haven demand

  • With inflation rising unabated, the Fed is widely expected to continue raising interest rates.
  • Dollar’s appreciation has led the dollar index to strengthen by over 11% in 2022.
  • As a result of higher risk-free returns being available in the U.S., there have been persistent outflows of foreign portfolio capital.
  • The safe-haven demand for the dollar amid geopolitical risks has bolstered the dollar index.

Rupee’s Case

  • The RBI has stepped in to arrest a large depreciation in the currency, with interventions in the spot and forward foreign exchange markets.
  • India’s foreign exchange reserves have moderated by almost $55 billion from a high of $635 billion seen this year.
  • Elevated global crude oil prices have impinged on India’s oil import bill, in turn widening the trade deficit and affecting forex reserves further.
  • Even as the rupee has fallen sharply against the dollar, the depreciation has been relatively lower compared with past crises such as the global financial crisis of 2008.
  • Much of this is attributed to the lowering of India’s external vulnerability measured in terms of a relatively high import cover and low short-term external debt.

Effects of a weak rupee

  • The implications of a weak rupee on the economy are multi-fold.
  • Among the benefits is the premise that the rupee’s weakening should aid exporters in becoming more competitive.
  • A weaker rupee is driving up prices of key import commodities such as coal, oil, edible oil, gold, thus impacting the imported component of inflation.
  • Continuously sliding exchange rate discourages foreign investors from making fresh investments, which keep losing value in dollar terms.

The RBI’s measures

  • RBI announced to liberalise foreign inflows into the country and make them more attractive.
  • Measures such as promoting trade settlements between India and other countries in rupee terms,
  • Offering higher interest rates on fresh Foreign Currency Non-Resident (Bank) and Non-Resident External deposits,
  • Widening of the investable universe of government and corporate debt,
  • Relaxation of the interest rate and amount ceiling for External Commercial Borrowing loans, among others, have contributed to arresting the rupee’s slide against the greenback.

Way forward

  • Even as the rupee is expected to remain under pressure in the near term because of global uncertainty, high commodity prices and rising U.S. interest rates, mitigating measures have to be taken to partly arrest the slide.
  • The maintenance of the U.S.-India interest rate differential along with timely forex market interventions by the central bank to manage volatility will prove to be salutary in preserving the rupee value against the greenback.