The rupee has been on a strong wicket this year. On Wednesday this week, rupee hit a fresh 20-month high, appreciating past the 64 to a Dollar mark to 63.93, driven by strong foreign institutional fund flows.
A stable economic growth, the recent state election wins for the BJP which further strengthened political stability in the country and the government maintaining its fiscal targets in the Budget this year—at a time of patchy global growth—have made India a very attractive market for foreign investors.
Since January this year, foreign portfolio investors (FPI) have pumped in Rs. 42,025 crore in India's equity market, while investing Rs. 49,360 crore in debt markets, taking their total investments in 2017 to Rs. 91,385 crore. In 2016, FPIs had cumulatively invested Rs. 20,568 crore in equity, while selling Rs. 43,647 crore in debt.
Driven by the flows, and the fact that the Dollar too has been weak against a basket of currencies, the rupee has appreciated near six per cent this year. However, the rupee has seen a slight fall in the last two sessions. On Friday, it closed 64.25 to the Dollar, down 10 paise over Thursday's close.
Will the rupee continue to remain strong?
“There is the factor of inflows, which have buoyed the rupee. The second is that the Dollar has also weakened during the period against the Euro, which should translate into a strengthening of other currencies,” said Madan Sabnavis, chief economist at CARE Ratings.
Over the last one month, the Euro has appreciated against the Dollar by about two per cent, while the rupee has gained against the Dollar by one per cent.
A stronger rupee will have a negative impact on export oriented sectors like software services companies, pharmaceutical firms, textile makers and auto ancillaries at a time India's exports had picked up over the last several months. Analysts reckon a stronger rupee can knock off three to four per cent earnings growth of export focused sectors like IT and pharma.
However, a stronger rupee will lead to lower prices for crude oil imports and thus reduce inflation, pointed out Sabnavis. Consumer price inflation rose by 3.8 per cent in March—its highest level in the past five months.
Companies that have taken foreign currency loans will also benefit as the rupee strengthens.
Nonetheless, people who are remitting money to India will feel the pinch as the value, when converted to rupee will be lower.
“The Indian rupee is in a sort of a sweet spot. You have got the FII flows, structural factors are strong and then there is the political uncertainty in the US, with fears rising of a government shutdown there if the debt ceiling is not raised in time,” said Anindya Banerjee, associate vice president for currency derivatives with Kotak Securitie.
Typically, in the past, Reserve Bank of India has intervened aggressively whenever the rupee has appreciated or depreciated sharply, by either buying or selling Dollars. This time, the central bank interventions have been limited, given that there is already excess liquidity in the money market.
Considering that deposit growth in India has remained strong, a subdued credit growth offtake has added in to the excess liquidity of around Rs 4 lakh crore in the system.
Excess liquidity in the system would only add to inflation, and hence the RBI would be cautious in buying dollars, which could only inject further liquidity in the system.
“The RBI may have to use other measures like open market transactions, MSS bonds and cash management bills to absorb the excess liquidity,” said Sabnavis.
MSS bonds are a tool used by RBI to mop up the excess liquidity in the system when it buys dollars when the rupee is strengthening.
However, the general trend of the rupee looks on the up, given that there are little signs of foreign investment flows, particularly in India's debt market, abating.
