A strong US dollar and high oil prices, coupled with investors dumping emerging markets’ currencies and a record high current account deficit – a measurement of a country’s trade where the value of its imports exceeds the value of its exports – are proving a toxic mix for the rupee.
On Wednesday, it hit a record low of 72.91 against the US dollar.
The slide has pushed up prices of imported items such as petroleum products, commodities, electronics and engineering equipment – and analysts warn the “worst is not yet over”.
“In the medium term, India should brace for more rupee weakness, due to a further pickup of inflation. We expect the rupee to reach a steady rate of somewhere around 75 [against the US dollar],” said Hugo Erken, chief economist at the Dutch multinational RaboBank.
Late on Friday evening, the Indian government announced several immediate measures that it said are aimed at arresting the rupee fall.
Indian Finance Minister Arun Jaitley said on Friday that the government plans to take measures to cut down “non-necessary” imports, ease overseas borrowing norms for the manufacturing sector and relax rules around banks raising rupee-denominated overseas bonds.
The announcement was preceded by an economic review meeting chaired by Prime Minister Narendra Modi.
Further measures are expected to be announced on Saturday.
A number of emerging economies – including Turkey and Argentina – have seen the value of their currencies drop against the US dollar in recent months amid rising trade tensions between the United States and China that have rattled international investors.
Mohan Guruswamy, former economic adviser to the Indian government, said the international instability has added to the rupee’s woes.
“The crisis is ongoing. The rupee fall is partly a global crisis as well, all thanks to [US President Donald] Trump and his declaration of a trade war which is adding to the pressure and the uncertainty,” Guruswamy told Al Jazeera.
“The short-term sell-off that we have seen is worrying,” said Erken, citing a combination of factors contributing to it.
“Global tensions over trade, stubbornly high oil price and, of course, country-specific turmoil in Turkey (central bank independency and inflation), Brazil (elections), South Africa (deteriorating institutional quality) and Argentina (low reserves, high inflation, high foreign currency debt),” he said.
Impact of rupee slide
Higher oil prices pose significant risks to the economy of India, which imports more than two-thirds of its fuel needs.
Burgeoning oil import bills could put further downward pressure on the rupee and widen the country’s trade deficit – according to official figures, India’s imports last month stood at $45bn while exports were almost $28bn.
“If you have persistent trade imbalances, persistent current account deficit, the rupee would keep on falling. There is a greater demand for dollars as the rupee weakens,” said Guruswamy.
In such a situation, more people tend to sell rupees to buy dollars, or any other foreign currency that they require.
The weaker currency is also sparking foreign sales of bonds and stocks, which in turn is further pressuring the rupee.
“Money is flowing back to America amid a stronger dollar and incentives for people to keep their money in the US,” said Guruswamy.
He added that the steady slump in the Indian currency has a negative impact on Indian consumers “as petrol and diesel prices are going up” but provides exporters with a “short-term” gain “by making them more competitive”.
Checking the fall
The rupee’s defence in recent years has largely rested on a strategy from the central bank, the Reserve Bank of India (RBI), to drain cash from domestic money markets and raise short-term interest rates.
On Tuesday, the central bank sold dollars in the market to stem the rupee’s weakness.
But Guruswamy warned, “There’s a limit to how much the central bank can defend” the rupee. “In the past few weeks, they have sold over $20bn. We cannot deplete our foreign reserves.”
According to estimates, India’s foreign reserves currently stand at $400bn, down from a record high of $426bn in April.
On Friday, the rupee strengthened by 50 paisa to 71.68 against the dollar in early trade in the foreign exchange market, on the back of a government assurance that all steps would be taken to ensure the domestic currency does not depreciate to “unreasonable levels”.
However, analysts such as Erken, of RaboBank, warn against over-intervention.
“[The government] has to tread carefully. Large-scale currency interventions have the same effect as raising rates and the RBI certainly would not want to derail the current economic growth momentum,” Erken said.
India’s ruling Bharatiya Janata Party acknowledges that the currency’s fall is a matter of concern, but dismisses doomsayers’ predictions for the economy.
It insists the economic fundamentals remain sound, with some saying the rupee’s depreciation will help make exports more competitive and reduce imports.
“Rupee is not weakening, rather it is the dollar strengthening against all other currencies,” ruling party spokesperson Zafar Islam told Al Jazeera.
“In fact, India is in a much better position than other countries like Turkey and Argentina who have huge external debt and hence much more exposed to currency risk than us,” he added.
“The fall in the value of the rupee has also helped our exports. This month’s export figures are stronger than expectations.”
According to the ruling party, the rupee was still performing better than some other currencies and the country had sufficient foreign exchange reserves.
Analysts such as Erken say India is experiencing a “Goldilocks moment” which is reasonably low inflation and high growth, clocking an 8.2 percent gross domestic product (GDP) growth in the three months through June.
What lies ahead?
“From a policy perspective, the government has been pushing hard to implement key reforms and shape a more business-friendly environment,” he said.
But others argue policymakers cannot deflect blame for the lack of investment in the economy or policies that have allowed the current account deficit to reach unsustainable levels.
There’s no quick fix to the crisis, warned Guruswamy.
“Trade imbalances have to be dealt with, current account gap has to be bridged. You have to shore up confidence among the investor community. There’s a serious trust deficit in the government. People who are investors, who deal with money, builders of the economy have no trust in the government,” he said.
Global financial firm Nomura warns of further turbulence for the rupee as India gears up for a general election by May next year.
“The key risks [to the rupee] stem from the government turning more populist ahead of the 2019 general elections [worsening domestic fundamentals] and a sharper-than-expected domestic growth slowdown [triggering equity outflows],” a company statement released on 10 September said.
For his part, Erken said India should brace itself for the effect of further US punitive measures against China.
“Another spoiler would be further protectionist announcements by the Trump administration. We expect another $200bn of Chinese imports to be levied before the [US] midterm elections,” he said.
“This would fuel anxiety among investors, and we can expect another round of emerging market currency sell-offs.”