The US dollar Index has recently fallen sharply. From 86.637 on 20 April, the index is currently around 76, a fall of around 12%. All kinds of reasons have been given for the fall, including its high deficit, the diversification away from the dollar by countries such as China and the penchant of the US investors to invest in non-dollar assets. And there’s little doubt that we have seen a flood of foreign institutional investors (FIIs) to our market recently.
But the rupee has moved up by less than 5% over the dollar since 20 April. That’s very different from the behaviour of several other Asian currencies, which have moved up sharply. For instance, since that April peak of the dollar index, the Korean won is up almost 13% against the dollar, the Indonesian rupiah 16%. Currencies such as the Thai baht and the Malaysian ringgit, too, have appreciated more than the rupee.
Why isn’t the rupee going up, despite the robust FII inflows? ICICI Securities economist A. Prasanna points out that traders are positive on the rupee. He also says that intervention of the Reserve Bank of India is not to blame because it has been marginal.
The most probable reason is that, although portfolio flows have been good, other inflows may not be that robust. Recall that one of the main reasons for the rise in GDP in the June quarter was the increase in net exports, as imports fell more than exports. This quarter, though, it’s likely that imports have gone up and the trade balance is going to worsen.
Gaurav Kapur, senior economist at ABN Amro Bank, says the capital inflows may not be enough to offset the trade outflows. He points to the healthy demand for dollar in the market as proof and argues that oil and gold prices have moved up. Finally, he says with valuations in the equities markets so high, the foreign exchange market may be cautious about the prospect of further FII inflows in the short term.
Graphics: Ahmed Raza Khan/Mint
Perhaps the clue to the behaviour of the rupee lies in the fact that while South Korea and other countries of South East Asia are all expected to have current account surpluses this year and the next, the Asian Development Bank has forecast a current account deficit of 1.5% of GDP for India in 2009 and a deficit of 2% of GDP next year. That could account for the much lower appreciation of the rupee against the dollar.
Looking ahead, most analysts expect the rupee to appreciate, as external funding, such as external commercial borrowing, picks up. Kapur says the rupee usually strengthens during the second half of the year.
A recent Citigroup research note says Asian emerging market currencies are likely to continue to appreciate versus the dollar in the short and medium term, supported by a weakening dollar and by the recovery in the industrial economies, which should give exports a boost. Citigroup expects the rupee, Korean won and Indonesian rupiah to outperform their Asian peers.