Rupee may drop as RBI helps banks on cash ratio

Rupee may drop as RBI helps banks on cash ratio
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First Published: Mon, Apr 02 2007. 06 19 PM IST
Updated: Mon, Apr 02 2007. 06 19 PM IST
By Anoop Agrawal, Bloomberg
Mumbai: Rupee may fall this week on speculation that the Reserve Bank of India (RBI) will sell the currency to help banks meet an increase in the cash amount they must set aside to cover their deposits.
The cash reserve ratio for banks will be raised to 6.5 % from 6 % in two stages starting 14 April, the RBI said after markets closed on 30 March, . The RBI also lifted the repurchase rate, the rate at which it lends overnight to banks, to 7.75 % from 7.5 %.
“The increase in cash reserve will give a cushion to the central bank to buy dollars,” said Mohan Shenoi, treasurer at Kotak Mahindra Bank in Mumbai. “That should pressure the rupee downward this week. Banks will look to sell dollars more aggressively, which the central bank may absorb.”
The rupee rose 2.7 % in the fiscal year through 30 March to 43.49 against the dollar, according to data compiled by Bloomberg. It may decline to 43.75 this week, Shenoi said.
Governor Yaga Venugopal Reddy has raised borrowing costs six times in 14 months to curb inflation, which has stayed a percentage point above the bank’s highest estimate. The rupee rallied to an eight-year high on 28 March on a cash shortage in the banking system, then had its biggest drop in 11 years the day after.
“There are concerns about inflationary pressures being reinforced by ample liquidity driven by excess capital flows,” Reddy said in Cernobbio, Italy while the central bank issued a statement in Mumbai announcing the measures. “The currency appreciation or depreciation could, at times, be steep and sudden, resulting in disruption in the real sector and therefore there is a need for containing excess volatility in foreign exchange markets.”
Capital Flows
Inflows of investment from abroad, attracted by India’s economic growth, are also helping the rupee gain. Direct investment from abroad may double to $12 billion in the year ended March 31, exceeding equity purchases by overseas investors for the first time, Trade Minister Kamal Nath said in February.
Asia’s fourth-largest economy will grow 9.2 % in the year through March, according to government estimates, accelerating at the second-fastest pace among major world economies.
The monetary authority raised the cash reserve ratio in December and February, by half a percentage point each time, draining 275 billion rupees in total. That, along with tax payments of about 400 billion rupees in March, forced banks to sell dollars for their lending needs in order to avoid borrowing from the overnight money market, where rates reached the strongest in a decade last week. This sent the rupee to its eight-year high last week.
Shift in Policy’
Bankers said Reddy has abandoned the central bank’s policy of keeping a firm check on volatility in the rupee-dollar market and allowed the currency to appreciate. That makes India’s imports cheaper and helps temper inflation.
The benchmark wholesale price inflation held at near a two-year high of 6.46 % for the three weeks ending 17 March, the government said last week.
“The stance of monetary policy has progressively shifted from an equal emphasis on price stability along with growth to one of reinforcing price stability with immediate monetary measures and to take recourse to all possible measures promptly in response to evolving circumstances,” the central bank said in its statement last week.
Tougher Stance
Reddy said the central bank has shifted toward a tougher stance on tackling rising prices and is less concerned about the impact on the pace of growth.
“The latest data have revealed that economic activity shows no sign of slowing, with industrial production rising by almost 11 % year-on-year in January,” said Keith Gyles, an economist at Capital Economics in London.” “We expect the RBI to maintain its tightening basis for some time, and think a further hike in policy rates will be needed to bring inflation back into its target.”
Any drop in the currency may be tempered by speculation overseas investors will continue to buy local equities.
Narrow Deficit
“Rupee interest rate will increase and so will the investments and remittances from abroad,” said Parthasarathi Mukherjee, treasurer at UTI Bank in Mumbai. “Also, as the outlook on India’s growth remains strong, I don’t see the capital and portfolio flows slowing in the near future.”
Global funds bought $1.5 billion more of Indian shares than they sold the year through 29 March, according to the stock market regulator. They purchased $8 billion in 2006, following a record $10.7 billion the prior year.
India’s current account deficit narrowed to $3.04 billion from $4.78 billion in the fiscal third quarter as revenue from services abroad and remittances by overseas workers almost doubled.
Receipts from professional, software, and business services and overseas Indians rose to $16 billion in the three months ended 31December, from $8.2 billion in the previous year, the central bank said.
India topped a global consumer confidence index of 40 countries for the third year through 2006, according to AC Nielsen Co., a New York-based market research firm, due to increased spending on consumer goods, automobiles and services.
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First Published: Mon, Apr 02 2007. 06 19 PM IST
More Topics: Money Matters | Currency |