The rupee, which declined close to 18 per cent in 2010-11 so far, may be headed further south, owing to further shocks from developed economies. India's widening current account deficit, volatile capital flows and high inflation have made the domestic currency vulnerable to developments in the West.
With no quick resolution to the debt crisis in the euro zone, the rupee may have to go through more pain. “The rupee has room to fall further, if global growth expectations continue to decline and dollar liquidity pressures intensify… we believe the dollar-rupee rate could reach the 58-level,” said David Bloom, global head of foreign exchange strategy, HSBC Bank.
The bank does not anticipate a rapid recovery by the rupee until there is considerable improvement in the external environment, or lower domestic inflation, which would see real interest rates become less negative. HSBC Bank's group chief economist, Stephen King, said global economic growth prospects had become dull and things would have to get worse before they improved.
After falling in nine consecutive sessions, the rupee staged a recovery on Thursday, owing to steps taken by the central bank to attract dollar flows into the country. The rupee closed at 52.07 against the greenback, 30 paise higher than its previous close.
On Wednesday, the Reserve Bank of India (RBI) increased the rates on foreign currency deposits, lifted the $100-million cap on the net flow of foreign currency through rupee swaps and raised the cap on spreads for external commercial borrowing. “These steps will be partially successful and will only help slow down the rupee's fall. RBI would have to look at more such measures,” said Bloom.
Opening a special window to meet the needs of oil-importing companies may bring short-term relief, but a bigger intervention is needed.
“What is the point of having foreign exchange reserves, if you don't want to use them?” King asked. According to RBI data, India's foreign exchange reserves stood at $314 billion as on November 11.
“If the market comes to believe India is entering into an inflation-INR depreciation spiral, investor positioning in the domestic asset markets could become much more vulnerable, and RBI's foreign exchange policy could enter a much more difficult position. Under such circumstances, even an improvement in global growth and funding conditions may not be sufficient to catalyse a recovery in the rupee,” HSBC Global Research said in a report.
