Rupee review

BS OPINION

As a matter of fact, the rupee is now at a lower level against the dollar than it was a month ago, which is quite a change considering that it appreciated by almost a rupee in the previous two months.

There are many reasons for taking a re-look at the trend in the rupee's appreciation. First, the country's export performance has been decelerating, and that will have an impact on dollar inflows.

At the same time, the improvement in the domestic economy has led to rising imports, and a widening trade deficit.

Among other inflows, the Reserve Bank of India's directive to reduce interest rates on NRE deposits will certainly have an impact on these flows, and the same can be said of the recent ban on OCB investments.

Furthermore, the recent events in the stock market seem to indicate that there has been some booking of profits by FIIs, and although there may not be net outflows, there does appear to be a scaling back of inflows.

Reports also indicate that exporters have been cancelling forward bookings. In short, there now exists a combination of factors that point towards rupee weakness.

On the other hand, the anecdotal evidence so far is that importers have still not come forward to cover.

Most of them are sitting on substantial profits as a result of the rapid appreciation of the rupee and they are unlikely to be worried over a depreciation of a few basis points.

So far, there has been no signs of panic in the market. In fact, forward premiums have eased further, clearly indicating that importers are still not covering.

Foreign exchange reserves continue to grow rapidly, adding $1.1 billion in the week to September 5, which shows that it is not only the NRIs who are contributing to the inflows.

Moreover, the outflows on account of the Resurgent India Bonds also need to be factored in to explain the sudden nervousness in the foreign exchange market, and it is possible that exporters are merely taking the opportunity to book some profits.

And finally, the dollar has once again started weakening against the major currencies. It is likely that the markets could have overreacted to the US growth prospects.

In contrast, with a good monsoon, the prospects for the Indian economy can only get better, and GDP growth forecasts are being revised upwards.

There is no doubt, however, that at the very least, the rate of rupee appreciation will be much slower now. From a policy perspective, this should be welcome.

Not only India, but China and Thailand too have taken steps to limit hot money flowing into their economies.

Exporters will heave a sigh of relief. And if the volatility in the foreign exchange market persists, it will also induce importers to cover.

As the last RBI credit policy pointed out, "It may be recalled that a part of the problem that many emerging economies have faced in the past has been due to excessive unhedged foreign currency exposures in a country during periods when movement in exchange rate was absent or the currency was appreciating".