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RBI rate cut may put pressure on rupee to decline

RBI rate cut may put pressure on rupee to decline
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First Published: Thu, Mar 05 2009. 01 15 AM IST

Updated: Thu, Mar 05 2009. 10 57 AM IST
Mumbai: The rupee recovered against the dollar on Wednesday after dropping to a life-time low the previous day, but foreign exchange dealers and analysts say the rebound is temporary and forecast further declines for the Indian currency as it moves in tandem with Asian units.
The half-a-percentage-point cut in two key policy rates by the Reserve Bank of India (RBI) late in the day will likely exert extra pressure on the rupee to depreciate because lower interest rates diminish the attractiveness of rupee assets for overseas investors.
Also See Rupee’s Fate (Graphic)
In line with Asian currencies, the rupee rose to 51.54 per dollar at the close of trading, from a record low of 52.18 on Tuesday. The gain was the most in two months and the first in eight days for the rupee, which has been hurt by an exodus of foreign funds from the stock market amid the global financial turmoil.
The rupee was the third worst performer in the past 12 months among the 10 most-traded Asian currencies, with a 22.4% loss, according to Bloomberg data. Only South Korea’s won and Indonesia’s rupiah have declined more.
Net sales of Indian equities by foreign funds this year have reached $1.8 billion (Rs9,342 crore), adding to 2008’s record $13.3 billion, according to the Securities and Exchange Board of India. The Bombay Stock Exchange’s Sensex has fallen 12% this year.
Foreign exchange dealers said there is more room for the rupee to weaken before it corrects its course. One key issue is the performance of emerging market equities.
“The perception of global risk aversion is inducing a general sell-off in the emerging markets,” said Agam Gupta, director and head of trading, rates and foreign exchange, at Standard Chartered Bank’s Indian unit. “All the Asian currencies are moving together and are on a weakening bias against the dollar...rupee is following suit.”
Although the rupee may be moving in tandem with other Asian currencies, some nagging fundamental problems at home are contributing to its slide. The government’s widening fiscal deficit has led global rating agency Standard and Poor’s to lower the outlook on India’s rating from stable to negative, putting India a step away from junk status.
At the same time, global risk aversion has prompted investors to rush to buy dollars and US treasury bills, considered safe havens, causing the greenback to strengthen and Asian currencies to plunge.
Currencies of South Korea, Indonesia, Singapore, Malaysia and Taiwan have lost more than the rupee’s 5.53% slide so far in 2009.
According to currency dealers, RBI seems to be sanguine about the rupee’s weakness, which would make India’s exports more competitive although imports would become more expensive.
“RBI is probably okay with the weakening (of rupee) because if other Asian currencies weaken and rupee doesn’t, the country loses its competitive advantage,” said Gupta.
In a research report, Kotak Mahindra Bank economists Indranil Pan and Kaushik Das list “dollar squeeze and arbitrage opportunities in the non-deliverable forward (NDF) market”, along with risk aversion and global deleveraging among the fundamental reasons for the rupee’s weakness.
Forwards are agreements in which assets are bought and sold at current prices for future delivery. Non-deliverable contracts are settled in dollars rather than the local currency.
Investors overseas are expecting the rupee to depreciate to 52.57 per dollar in three months but in local market, the expectation is that the currency will trade at 51.88 in three months. This gives arbitrageurs the scope to buy three-month dollars in India and sell overseas at a profit.
N.S. Paramsivam, group head-foreign exchange and treasury, Essar Group, said the rupee cannot depreciate beyond 53 “and will probably hold steady between 51.50 to 52.25 a dollar in the coming days.” Gupta sees the rupee weakening to 53 a dollar in about month.
Anil Varma of Bloomberg contributed to this story.
Graphics by Sandeep Bhatnagar / Mint
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First Published: Thu, Mar 05 2009. 01 15 AM IST
More Topics: Rupee | Dollar | Currency | Markets | RBI |