Reserve Bank of India (RBI) Deputy Governor Subir Gokarn tells CNBC-TV18 the rupee depreciation is offsetting whatever little softening India has seen in commodity prices. Edited excerpts:
The finance ministry has been saying it would ask RBI to intervene at an appropriate time. What is your observation on the sharp uptrend in the rupee and how are you approaching it?
This is not a rupee-specific phenomenon, this is global. Every currency in emerging markets has been subjected to broadly the same set of forces. The magnitude of movement has differed across countries, depending on the kind of policy responses initiated.
The approach is basically founded on the principle that the rupee has a market-determined exchange rate, something we have been saying for several years. There are, of course, some boundaries on this. There are restrictions on debt inflows. But within those boundaries, the exchange rate is market-determined. We saw this happen in 2008, when the rupee depreciated to 52 and below. It then rebounded sharply, and stabilised in the mid-40s for a time. Now, it is again showing this pattern, driven largely by global considerations.
There are two issues here. One, is this going to be a persistent sort of pressure and is the depreciation going to continue for a long period of time, in which case, it starts to disrupt the domestic macroeconomic situation? Maybe, then, we need to think of a different approach to it. The other aspect is the argument that reserves should be used to defend the currency and that, I think, is a much more complicated issue. Our reserves are not an outcome of persistent current account surpluses, unlike in many countries, particularly in our region. There, it is the result of excess capital inflows over the current account deficit and to that extent, reflects a cushion we have against our external liabilities. So, the use of reserves to defend an exchange rate, which may not be defensible beyond a point, means we end up with the same pressures and with a lower set of defence against it. So, you have to be very careful about how we use the reserves, and I think generally, markets have to accept this is a floating currency and that there are measures to help hedge against that. Those exposures have to be hedged as much as we can. So, long-term market development strategists have to ensure these hedging instruments become more accessible and more efficient.
A lot of people have been talking about the 52-level you alluded to, and are probably hoping RBI might want to defend it. But on your point that this rupee move has been determined by global factors, a lot of people say this is also a reflection of India’s weakening macros and, therefore, even if the bank were to try and defend 52, maybe market forces would eventually lead it lower. What do you think?
We been talking about weakening domestic macro conditions for quite some time, before the recent pressure started. So, if you are looking at a pure event impact here, this process started the day the US sovereign rating was downgraded. So, there is an event contribution to this. Of course, domestic macro conditions may be reinforced at the moment, and there is no disputing that, but let's not lose sight of the fact that there is a global dynamic here. And, to try and resist, or try and do something for which we do not have the capacity, we may run out of capacity in a situation in which global forces are pushing it along, this is also a risky strategy. So, it's a question of weighing the relative risk and at this point, we feel the sort of movement, particularly if it's likely to remain in this situation for a very long period of time, is hurting. Whatever little softening we have seen in commodity prices is being offset by the depreciation. In terms of defending a particular target, I go back to my point that to defend, you have to have capacity, and you could well end up in a situation in which you lose capacity without having achieved your target, which makes it vulnerable to any kind of shock beyond that. And, it's not a hypothetical risk, it’s a very tangible risk.
Today, the finance ministry decided to enhance the limit for foreign institutional investors on both government securities and corporate bonds, and the stated objective seems to be to ensure better rupee-dollar parity. Do you think this may bring in some modicum of balance between the rupee-dollar equation? Do you agree that what we are seeing right now is abnormal?
I think on the first issue, we are part of the process of expanding limits. So, the fact that it happened is an issue of coordination between various elements of the system. The motivation, in terms of the exchange rate management, or basically using the control we currently have in place, which are ceilings on debt flows — by lowering these ceilings, are we going to attract more capital to offset the exit from other channels, and if that comes in, there would be a positive impact, at least in terms of reversing the depreciation.
So, that’s the consequence I would expect and that’s been the underlying logic, in terms of arriving at a decision, apart from other issues about debts. There are, of course, risks that come with it. We should be conscious of the risk that more debt exposure means more vulnerability overall. But at the moment, the benefits seem to have outweighed the risks.
On volatility, I think we have not distinguished between volatility in a very short term — intraday movements — and volatility in the longer term, the magnitude of the movement over a period of time. On the first, I have already addressed the issue in my earlier response. On the second, I would go back to the term I have been using — smoothing intervention. If there are sharp spikes in movement in a particular direction, we see intervention in that situation as a way to smoothen the transition. Defending the rate at this point is not on our radar screen.