India: Currency – August 2013
British High Commission New Delhi
The rupee falls close to record lows in late July. Finance Minister Chidambaram sets out measures to get a grip on India’s current account deficit.
There was volatiliy in India’s markets on 31 July. At its regular meeting the day before, the RBI made no change to interest rates, instead issuing a message that it would prioritise stabilising the currency over stimulating growth, but that the measures taken since June to absorb liquidity would be rolled back in a calibrated fashion when conditions were suitable. In response, after a relatively stable few days, the rupee hit 61.16 to the US dollar (close to its all time low of 61.20 on July 8). In the auction of Treasury bills held on 31 July, 91 day rates hit a record of 11.26%, well above their previous high of 11% a week earlier.
What were the markets reacting to? Analysts suggest that the RBI’s position on when it would relax liquidity was insufficiently clear. The success of the RBI’s measures in pushing up short term rates also had an impact in the bond market. 31 July also saw the release of some negative data on India’s macroeconomic performance. Following their recent trend, India’s eight ‘core’ infrastructure sectors grew only 0.1% this June, compared to 7.9% in the same month in 2012. Meanwhile the fiscal deficit hit half its annual target in the first quarter. This in itself is not unusual, but with the Indian general election due by May 2014, reining back expenditure later in the financial year may be difficult.
The RBI put the onus for reform on the government. Finance Minister Chidambaram responded by setting out a range of measures to stem the current account deficit, seen as the structural cause for the rupee’s weakness. Some of these measures, such as further relaxing conditions for foreign direct investment, boosting exports and attracting long term capital from pensions and sovereign wealth funds, are seen as continuation of India’s liberalising trend.
But Chidambaram also said that the government would take measures to curb non-essential imports, citing electrical components. And he said that he would ask India’s public sector enterprises to raise capital on the international markets, as well as trying to attract further long term funds from India’s overseas diaspora. The government is also considering what action it can take to crack down on the overseas non-deliverable forward market in the rupee.
Chidambaram made clear that the option of sovereign bonds, which have been used twice before to address similar situations, remains on the table. He stressed that India would fully finance its current account deficit, without further drawdown of reserves, and that he would meet this year’s 4.8% fiscal deficit target. In the short term, his statement was effective, with the rupee recovering to 60.37 by the end of the day.
The measures taken so far focus on the short term. The weakness of the rupee is based on structural issues. Unless they are resolved, the currency will tend to react to negative news.
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