India’s rupee has been on a slippery slope this year; the pace has perhaps only picked up in recent weeks. On Wednesday, it had touched a record low of 78.40 to a US dollar, before recovering slightly. On Thursday, it closed at 78.32 and has declined 5 per cent to the greenback in 2022.
The Reserve Bank of India (RBI) has been intervening from time to time to shore up the currency. On Wednesday, for instance, it is reported to have sold around $1.5 billion through various state-owned banks. Nonetheless, there are multiple headwinds pressurising the rupee, which analysts say will keep it under pressure.
As the US inflation has spiraled to record four-decade highs, the Federal Reserve has taken a series of interest rate hikes. In its latest meeting in June, it raised the Fed funds rate by 75 basis points, and a similar interest rate hike is expected next month too. This will only strengthen the dollar further. Already, the dollar index, which is pegged to a basket of six currencies, is up 10 per cent in 2022.
The rate hikes apart, geo-political uncertainties due to the Russian invasion of Ukraine, and recent downward revision in the global growth outlook by the World Bank, have led to huge flight of capital from emerging markets, including India, as investors retreat to the safety of the dollar. In June alone, foreign portfolio investors have sold Rs 43,831 crore in Indian equity. Overall in 2022, FPI outflows have touched near Rs 2.11 lakh crore.
The FPI sell-off is one of the reasons for the rupee fall. There are several domestic issues too that are pressurising the rupee; a sharp rise in crude oil price this year being one of them. Crude oil prices continue to trade around $110 a barrel. That apart, cost of several other commodities, including edible oil, remains elevated due to the Ukraine-Russia conflict. Given a major chunk of India’s crude as well as edible oil requirements are imported, the high cost will undoubtedly put additional pressure on the rupee.
In the backdrop of the high commodity prices, India’s trade deficit rose to a record $23.3 billion, and it is expected to remain elevated in the coming months.
India’s current account deficit (CAD) in the January-March quarter narrowed to $13.4 billion or 1.5 per cent of GDP, compared with $22.2 billion or 2.6 per cent of GDP in the October-December quarter. However, this easing was before the impact of the Ukraine war, which will be visible in the current April-June quarter.
For the full year 2021-22, the CAD touched $38.7 billion, against a year-ago surplus.
“The rupee’s performance has been caught between worsening external terms of trade, a fast changing global risk environment, FPI outflows and the RBI’s forex stance,” pointed Madhavi Arora, lead economist at Emkay Global Financial Services.
She expects the CAD in the year ending March 2023 to touch $112 billion or 3.3 per cent of GDP. Earlier, Emkay had forecast a CAD of $102 billion or 3 per cent.
Upasna Bhardwaj chief economist at Kotak Mahindra Bank also sees CAD this year at around $105 billion or 3 per cent of GDP (expecting crude oil to trend around $105 a barrel).
Currently, India has forex reserves of around $600 billion, which should shield the economy from any major external shock. But, there will be some pressure on the reserves, if the RBI continues to intervene strongly to protect the rupee.
“We believe eventually the RBI may let the exchange rate adjust to new realities, albeit orderly, letting it act as a natural macro stabiliser to policy reaction functions,” said Arora.
In the backdrop of rising inflation back home too, the RBI monetary policy committee has raised its repo rate by 90 basis points over May and June. Given, elevated commodity prices and global inflation showing no signs of easing, more repo rate hikes are expected in the coming months.
But, the rupee is likely to remain under pressure as markets continue to assess the evolving growth-inflation dynamics from the aggressive global policy tightening and geo-political risks, said Bhardwaj.
“While we expect RBI to intervene heavily to manage the increased volatility, the direction and magnitude of the rupee will move in sync with the rest of the emerging market pack,” she said.
Both, Bhardwaj and Arora expect the rupee to trade in the 77.50-79.00 to a dollar range in the near-term.
Suman Chowdhury, chief analytical officer at Acuite Ratings, too now sees the rupee touching 79 to a dollar this year, versus 78 expected earlier.
The combination of elevated global commodity prices and sequential improvement in domestic growth among other things is resulting in widening of trade and current account deficit for India, said Chowdhury.
He is expecting the current account deficit at over $90 billion this year. The balance of payment deficit would weigh on the rupee, but the comfortable forex reserves cover would prevent excessive weakness, he said.
