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Informist, Friday, Dec. 6, 2024

By Pratiksha

NEW DELHI – Ahead of the December monetary policy outcome, the currency market was rife with speculation about what the Reserve Bank of India will do to address the recent depreciation in the rupee. The RBI did not entirely pour cold water on those expectations, yet in some ways it did.

The central bank's tool to support the rupee came in the form of a 150-basis-point hike in interest rate ceilings on Foreign Currency Non-Resident Accounts (Banks) or FCNR (B) deposits from one year to five years. RBI Governor Shaktikanta Das, while announcing the December Monetary Policy Committee outcome Friday, said the interest rate ceilings have been increased to attract more capital inflows.

The Indian currency has been under pressure recently and has been hitting successive record lows. The pressure on the rupee has been such that the RBI had to deploy multiple measures, including verbal intervention, in various segments of the foreign exchange market to curb the currency volatility and depreciation in the rupee. 

But market participants are not hopeful of any relief for the rupee from Friday's measure, as was reflected in the day's rupee movement. After touching a high of 84.5700 a dollar during the day, the rupee went on to settle at 84.6875 a dollar on Friday, only 5 paise higher from the previous close. 

"Our initial assessment is that the incremental capital inflows into India from these FCNR measures may help INR (Indian Rupee) at the margin temporarily, but should not be substantial enough to change the overall trajectory for USD/INR (dollar/rupee) to head higher," MUFG Bank said in a report, adding that the RBI coming up with the measure indicates the central bank's concern on the recent weakness in the rupee. 

Market participants said that the FCNR measure will attract only tepid foreign inflows, with banks unlikely to raise rates as these are already high. Banks are now allowed to raise fresh FCNR (B) deposits between one year and less than three years at rates not exceeding the overnight alternative reference rate plus 400 bps compared with 250 bps earlier. For deposits of three to five years, the ceiling has been increased to the overnight alternative reference rate plus 500 bps against 350 bps earlier.  

"The aim is to attract capital amid pressures on the rupee. However, we don't expect that banks will increase the rates, as the rates are already quite high. With SOFR (secured overnight financing rate) at 4.59%, FCNR (B) deposits in US dollar could be 7.09% for 1-3 year tenors and 8.09% for 3-5 year tenors," State Bank of India said in a report.

In 2023-24 (Apr-Mar), India received total inflows of $6.4 billion into FCNR (B) deposits. So far in the current financial year, FCNR (B) deposits have got inflows of $5.3 billion.

Some dealers said that had the RBI made the fresh FCNR (B) deposits mobilised by banks eligible to be swapped with RBI under its swap window to hedge foreign exchange risks, as it did in 2013, the inflows would have been material in nature. MUFG Bank forecasts the rupee to fall to 85.20 by Jan-Mar and 86.00 by Oct-Dec of FY26.

Most market players said that the RBI opting for a hike in interest rate ceilings on FCNR (B) deposits indicates that the central bank does not expect steady foreign portfolio inflows going ahead, and is also rethinking its capacity to intervene through dollar sales to support the rupee. India's foreign exchange reserves had declined by over $46 billion from the record high of $704.89 billion late in September. Reserves are at $658.09 billion for the week ended Nov. 29.

"This is a tacit attempt to tap other sources of foreign capital flows, which could give RBI some breathing room and lower its need for FX intervention," Madhavi Arora, chief economist at Emkay Global Financial Services, said in a note.

Apart from taking actions, Das also went out of his way to signal that all was good in the hood through his words. He spoke at length about the RBI's intervention strategy in the foreign exchange market, but failed to calm currency traders' nerves. "He (RBI) sounded too defensive (of RBI's actions in the FX market). It sounded like overcompensation and gave mixed signals," said a senior treasury official at a state-owned bank.

Das said the RBI has combined market discipline with prudent intervention in the foreign exchange market, which has created a system that supports stability, resilience and growth.

Apart from the increase in interest rate ceiling on FCNR (B) accounts, the RBI also cut the cash reserve ratio of banks by 50 bps, which gives the central bank space to intervene through dollar sales in the foreign exchange market to support the rupee. Barring these two measures, market participants did not find anything in Friday's policy outcome that has the potential to materially change the weak outlook for the Indian currency. And with the Donald Trump presidential regime in the US on its way, it is almost certain that the rupee's bad days are staring the market in the face.   End

Edited by Tanima Banerjee

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