The Reserve Bank of India’s latest measures to support the rupee could trigger a sharp near-term recovery in the currency, but the bigger challenge may lie ahead. By curbing speculative dollar demand and redirecting a large chunk of oil companies’ dollar purchases to the central bank, the RBI is attempting to ease pressure on the foreign exchange market without resorting to the blunt instrument of significantly higher interest rates.
The measures could provide immediate relief -- yes. Currency market experts expect the rupee to strengthen towards 95–95.50 against the dollar in the immediate-term, potentially encouraging exporters who have been holding back their dollar receipts in anticipation of further depreciation to bring them into the market.
But a recovery driven by regulatory intervention and changes in market positioning may not be the same as a durable improvement in the currency’s fundamentals. The narrowing interest-rate differential between India and the US, rising American bond yields and persistent foreign portfolio outflows could continue to weigh on the rupee. If those pressures intensify, the RBI may eventually have to consider a more forceful monetary defence.
The RBI’s latest measures target several sources of demand for dollars. Oil companies have been directed to meet their dollar requirements directly from the central bank, taking a significant buyer out of the interbank market. Banks have also been asked to set aside a foreign exchange risk reserve equivalent to 20% of the nominal value of importers’ hedges above $2 million. This is expected to raise the cost of forward cover and discourage excessive hedging.
The central bank has also cut the limit on currency derivative positions without an underlying exposure to $5 million from $100 million and barred companies from rebooking cancelled forward contracts.