With the rupee crossing the 68 mark, our fingers are hovering over the panic button. The financial soothsayers are now saying that a mark of 70 is within grasp and images of 2013 are floating when the economy turned for the worse when the current account deficit ballooned and the RBI subsequently got into action.
The situation is similar though different. On both occasions the fall in the rupee was triggered by an external factor – the US in 2013 when the Federal Reserve spoke about tapering its quantitative programme and China this time with the global focus lens on the slowdown in the country.
In 2013, there was a chain reaction where speculators (banks) got into action and the RBI reacted by increasing the rates, restricting the repo finance and curbing outward remittances.
As we spoke of a sovereign bond to shore up dollar resources, the new RBI Governor came up with the swap facility for FCNR deposits at 3.5% - similar to the RIBs and IMDs we had decades back when the was a forex crisis when higher rates were offered to NRIs. This time there seems to be less pressure as the forex position even though they have declined marginally – being less than $350 bn which is a psychological mark.
The external situation is quite comfortable with a lower trade deficit at $99 bn for the 9 months period till December as against $147 bn in 2013. The current account deficit appears to be within the 1.5% range against 4% plus in 2013.
While FIIs are bearish in equities, they are positive in debt with the new limits in government securities being a driver. FDI continues to be smart and positive at $16.6 bn for the first half of the year against $14.7 bn in 2014. Therefore, the fundamentals appear to be quite assuring.
The fall in the rupee can be attributed more to the dollar strengthening with the yuan weakening. The latter is due to panic generated by news of a slowdown which was exacerbated with the IMF predicting lower growth in 2016 and 2017. When an economy which is assumed to grow by 10% slips below 6.5%, the fault lines get magnified.
The investment-led model growth has its limitations and with the central bank deciding to let the yuan float against the previous day’s close, the only direction is downward. This is an aggressive way to prop up exports in a market that is not growing adequately. Almost in sympathy, the other emerging markets currencies have been falling.
Should we be worried about this fall in the rupee? It is a concern because while a depreciation of around 5-6% can be taken to be normal on an annual basis anything more can cause distortions. But the problem today is that all such depreciation should be viewed in a global context.
If other currencies fall by more than the rupee which was the case before the China crisis, then with the rupee being a better performing currency would not drive home any advantage. When the rupee falls, typically exports become cheaper in global markets and we are able to push forward the same in relative terms.
But if our competing countries fall more, there is a case of competitive depreciation in which case we lose the advantage. In the present episode, we can go to gain as the rupee fall is at the median level of competing currencies.
Buyers of dollars will be affected, but may not matter in the larger scheme of things as imports are under control with global commodity price being low, especially oil which had upset calculations in 2013. Therefore, threat of imported inflation is low. Those looking at outward remittances or investments would be disadvantaged, but the impact on the whole would not be rough.
Where will the rupee go? Normally every time the rupee moves rapidly in a direction, it is assumed that it will move in the same direction and hence the logical corollary is that it should move towards the 70 mark. However, a lot will depend on how long the uncertainty of China would last as it is this singular factor that has caused this disturbance.
The important things to note is that the Chinese slowdown is not really an old story but has come the fore due to the developments in the stock market which has witnessed an exodus of funds. And the ratchet effect has been felt in all emerging markets with the possibility of further increases in the Fed rate justifying such action.
The view here is that the rupee will gradually move back to the 66-67 mark if there are no additional developments in the global space. The RBI may like the rupee to fall on its own accord as long as it believes there are no irregularities in the market like excessive speculation or exporters holding back their earnings.
Fortunately with imports declining and crude oil prices being low, there would be no untoward pressure on oil marketing companies to buy dollars in a rush. Therefore, the RBI may not be expected to enter the market, though it has worked in the past by selling dollars or taking positions in the derivative market. In fact, even in the last week, public sector banks have been selling dollars in the market to control the fall in the rupee.
What can upset the path to recovery? Presently the only factor that can swing the rupee on the basis of fundamentals would be the FIIs which in net terms have been very bearish as reflected also on the way in which the stock indices have been declining.
It is unlikely that the RBI will intervene in a big way to strengthen the rupee and any sale of dollars would be more to control volatility rather than target a specific rate.
Therefore, one should expect more volatility in this market, with global forces directing the madness over which we may have little control. In the past too such bouts of depreciation always leads back to a new equilibrium which is higher than the existing one when the panic was triggered. Whether this will be 66 or 67, time will tell.
The author is chief economist, CARE Ratings. Views are personal