Understanding RBI Steps to Arrest Rupee Decline

RBI

The RBI Governor had a Media Briefing on last Wednesday. The Governor tried to calm market fears on major two issues. One, the Impact on the Rupee as the Oil Marketing Companies (OMCs) Dollar Demand is back into the market and Second the concern on RBI Policy rates.

The Key takeaways from his briefing are as below:

  • The Governor Expressed satisfaction on the fact that the trade deficit has been quite in control and he estimated current account deficit at USD56 Billion for the current year. This estimate stands USD32 Billion lower than last year and well under 3% of the GDP. The Exports over the last five months have been growing in double digits. Additionally RBI has already raised USD 18 billion through recent initiatives of FCNR (B) and banking capital.

  • A Major Market worry is related to OMC’s dollar demand returning to the market and its impact.

In order to defend Rupee Depreciation RBI on August 28 offered a swap window to the OMCs wherein the OMCs got their dollar requirements from the RBI, with a commitment to sell it back in future at a certain exchange rate.

 To fund the OMC’s dollar demand the RBI in the month of September subsidised the forward premium for FCNR-B deposits and Overseas Borrowings from Banks. Thus banks could bring in funds, sell it to RBI with the comfort of buying it back at a subsidised forward premium. RBI has already raised USD 18 billion through this initiative

The market is worried as the swap window for FCNR(B) and bank borrowings closes at the end of November and with that the flood of dollar inflows will cease. The OMCs will have to come back to the market, which will add pressures to the rupee.

The Governor in the press meet stated that RBI has quietly let a large part of the demand already re-enter the market over the past few days without having the market notice it. The rest can be done in the phased manner. The repayment of the dollars by the OMC will be due between February and April 2014. The governor appeared calm and expressed that the OMCs would buy the dollars from the interbank if the market is opportune, but if it’s adverse the swaps will be rolled over for a more opportune time. And he also clarified that RBI can even ask for payment in Rupees instead of dollars if the market continues to be weak.

 

  • RBI Policy rate expectations: The Governor acknowledged market worries on future policy rates given the latest inflation numbers. He reiterated RBI’s concerns about the weak economy as well as high inflation. He emphasized RBI’s belief that the weak economy, increases in food supply, and recent policy rate hikes will provide a disinflationary impetus. The RBI will watch the incoming data carefully, especially looking for the effects of the harvest on food prices as well as effects of fuel price increases and exchange rate depreciation before making further decisions on interest rates.

 What to Expect hereon ..

The RBI Governor has predicted a CAD of USD 56 billion for the year 2013-14 (less than 3% of GDP) which is sharply lower than USD 88 billion last year. In addition to that RBI has already raised USD 18 billion through initiatives of FCNR (B) and banking capital.

FIIs have exited the Indian Debt markets in current year which has severely damaged the Indian Rupee, but currently the Debt FII exposure in India is down to USD 19 billion from USD 37 Billion in May.

The Taper has been delayed to March 2014 only the fears return every now and then and make the rupee vulnerable.

GDP Growth of India has not only come down sharply, its gap with advanced countries too has narrowed. The growth differential with United States is 380 basis points in 2013-14 compared to 960 basis points in 2009 when the FII inflows were the highest. Return of Foreign capital will critically depend on adopting the right policy mix to attract higher investment inflows and improve growth prospects of the economy. The government must focus on adopting policies that ensure higher inflows of durable capital investment to finance the CAD.  So, “Return to Higher Growth” will be a critical factor so as to improve Indian Macros. 

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