The rupee's slide from an average of 61.70 to a dollar in November to 63.51 on December 24 has been due to factors driven by both internal and global influences, as well as shocks emanating from the Russian crisis. However, the markets have taken it more stoically this time compared to 2013 as there is a belief that the balance of payments (BoP) is strong today with forex reserves of around $315 billion and that the present development is relatively transient in nature.
The Russian crisis has impacted almost all emerging-market currencies. Russia, being a major oil player, has been affected relatively the sharpest by the declining price of oil with the OPEC's recalcitrance to cut production in a bid to squeeze out shale oil production in the US. This, combined with the Ukrainian crisis, which has led to a trade embargo by western nations on Russia, has pushed it to a point of possible default, as memories of 1998 have been ignited when the government had reneged on payments. Add to this the statement by Janet Yellen [Federal Reserve chair] on the possible increase in US interest rates, which has caused funds to move away from emerging markets. The Mexican peso, Brazilian real, Turkish lira and South African rand were all impacted by this development.
The rupee's fall, though not that precipitous relative to peers, has also been driven by developments in the BoP as the trade deficit has widened in November with gold imports compensating for the decline in the oil bill due to lower crude prices. This, combined with the outflow of FIIs in both the debt and equity segments, has put pressure on the external balance, thus exacerbating the position. Funds, too, have now buffered in a rate cut by the RBI in early 2015, which would mean the Indian market would become less attractive at a time when the rates are increasing in the US and declining in India. The RBI has been intervening off and on to control this fall, but somewhere there is a feeling that the rupee should be allowed to weaken to provide a boost to exports, considering that shipments have shown signs of slowing down with the relatively anorexic world economy.
The rupee will also tend to be impacted by the global currency play where the strengthening of the dollar will continue to weaken related currencies and this is one factor over which we will have less control. The earlier theory of the real exchange rate being overvalued has diminished in importance given the decline in inflation in recent times back home.
What does it all means for us? The rupee will remain volatile until the Russian crisis eases and the direction will be upward (depreciation). Importers should be wary of such movements and hedge their positions to ensure they are not caught on the wrong foot. The RBI, which has almost taken comfort at the inflation situation, will have to bring in the exchange rate factor on top of consumer price inflation targeting when considering the next monetary policy move. It should always be ready to intervene in case volatility increases.
A weaker rupee may not quite help to push up exports, given the state of the world economy and the limited elasticity of our exports to rate changes. Imports, on the other hand, would become dearer and add to the inflationary pressure. More importantly, companies that have borrowed progressively from the ECB route will be pressurised on their repayments and debt service with a weaker rupee, more so as they have not been hedging their positions given the high cost. Therefore, a volatile rupee is a concern for the economy and the RBI is cognizant of the same.
While a rate of Rs 61 to Rs 62 looks fair under normal circumstances, Rs 63 to Rs 64 can be the short-term range, which can spill past Rs 64 if the crisis exacerbates.
The Russian crisis has impacted almost all emerging-market currencies. Russia, being a major oil player, has been affected relatively the sharpest by the declining price of oil with the OPEC's recalcitrance to cut production in a bid to squeeze out shale oil production in the US. This, combined with the Ukrainian crisis, which has led to a trade embargo by western nations on Russia, has pushed it to a point of possible default, as memories of 1998 have been ignited when the government had reneged on payments. Add to this the statement by Janet Yellen [Federal Reserve chair] on the possible increase in US interest rates, which has caused funds to move away from emerging markets. The Mexican peso, Brazilian real, Turkish lira and South African rand were all impacted by this development.
The rupee's fall, though not that precipitous relative to peers, has also been driven by developments in the BoP as the trade deficit has widened in November with gold imports compensating for the decline in the oil bill due to lower crude prices. This, combined with the outflow of FIIs in both the debt and equity segments, has put pressure on the external balance, thus exacerbating the position. Funds, too, have now buffered in a rate cut by the RBI in early 2015, which would mean the Indian market would become less attractive at a time when the rates are increasing in the US and declining in India. The RBI has been intervening off and on to control this fall, but somewhere there is a feeling that the rupee should be allowed to weaken to provide a boost to exports, considering that shipments have shown signs of slowing down with the relatively anorexic world economy.
The rupee will also tend to be impacted by the global currency play where the strengthening of the dollar will continue to weaken related currencies and this is one factor over which we will have less control. The earlier theory of the real exchange rate being overvalued has diminished in importance given the decline in inflation in recent times back home.
What does it all means for us? The rupee will remain volatile until the Russian crisis eases and the direction will be upward (depreciation). Importers should be wary of such movements and hedge their positions to ensure they are not caught on the wrong foot. The RBI, which has almost taken comfort at the inflation situation, will have to bring in the exchange rate factor on top of consumer price inflation targeting when considering the next monetary policy move. It should always be ready to intervene in case volatility increases.
A weaker rupee may not quite help to push up exports, given the state of the world economy and the limited elasticity of our exports to rate changes. Imports, on the other hand, would become dearer and add to the inflationary pressure. More importantly, companies that have borrowed progressively from the ECB route will be pressurised on their repayments and debt service with a weaker rupee, more so as they have not been hedging their positions given the high cost. Therefore, a volatile rupee is a concern for the economy and the RBI is cognizant of the same.
While a rate of Rs 61 to Rs 62 looks fair under normal circumstances, Rs 63 to Rs 64 can be the short-term range, which can spill past Rs 64 if the crisis exacerbates.
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