A sustained fall of the rupee — it dropped another 72 paise Monday to a record low of 72.45 against the US dollar — roiled the financial markets with the BSE’s Sensex shedding 488 points and the yield on 10-year government paper touching a four-year high of 8.15 per cent. The rupee has fallen over 13 per cent to the US dollar since January 2018, making it one of the worst performing currencies in Asia this year.
Two key worries that a sharply depreciating rupee pose for the government are the rising cost of raising funds abroad for Indian companies and the risk of expensive imports, especially petroleum products, feeding domestic inflation.
This may prompt the Reserve Bank of India to increase policy rates in its October policy review. Higher interest rates will moderate demand at a time when GDP growth rates are gaining momentum, which the government may not desire in a year leading up to national elections.
Besides a hike in interest rates, markets are speculating fresh liquidity injection to prevent the rupee from falling to the 75-level and an NRI bond issue to raise $25-30 billion. In the absence of support from the RBI, the rupee hit a fresh all-time low of 72.67 against the dollar at one stage before pulling back marginally to 72.45 for the day as against 71.73 on Friday.
The other big worry is of a higher current account deficit (CAD) due to increasing crude oil prices. It has already widened to a four-quarter high of 2.4 per cent of GDP in the first quarter ended June 2019, while CAD excluding transfers stood at a four-year high of 4.1 per cent.
The RBI which used to sell dollars when the rupee depreciated has, of late, been making only token interventions, aimed at curbing curb excessive volatility.
Stock markets reeled under the rupee’s fall and the global slide in equities due to trade war concerns. The benchmark 30-share BSE Sensex closed at a three-week low of 37,922.17, down by 467.65 points or 1.22 per cent. The 50-share NSE Nifty also fell below the 11,500-level by plunging 151 points or 1.30 per cent, its biggest single-day fall since February 6, to close at 11,438.10.
EXPLAINED | It’s hard to cut fuel price
Analysts said the Indian macros have come under the sharp scrutiny of the market, and it’s to be seen how the government and the RBI deal with the dual challenges of the rupee and bonds.
During 2014-17, the macros were all looking up but company earnings were lagging. In a reverse now, there is evidence of a pick-up in earnings but macros are under pressure. “We haven’t had a synchronized uptick in both macros and earnings,” said Jagannadham Thunguntla, Head of Research, Centrum Broking Ltd.
Several analysts and economists feel the RBI is likely to increase interest rates to tackle the rupee fall and inflation. High global oil prices coupled with a weak rupee have sent domestic fuel prices to record highs in recent sessions. The government’s decision not to reduce excise duties to protect tax revenues will impact consumers’ purchasing power.
“If the rupee remains under pressure, the RBI might be forced to hike rates citing risks to inflationary expectations and second order impact of a weak currency,” said Radhika Rao, Economist, Group Research, DBS Bank.
India also remains vulnerable to bouts of global risk aversion, global investment bank Nomura said. “Higher oil prices and portfolio outflows are its key external vulnerabilities. Aside from these, the key risks stem from the government turning more populist ahead of the 2019 general elections (worsening domestic fundamentals) and a sharper-than-expected domestic growth slowdown (triggering equity outflows),” it said in a report.