Indian Rupee (INR) recorded a decline against the US Dollar (USD) on Tuesday, settling at 83.50, down 6 paise from its previous close. A muted trend in domestic equities and foreign fund outflows dented investor sentiments, forex traders said.
At the interbank foreign exchange market, the local unit opened at 83.51 and hit the intraday high of 83.47 and a low of 83.56 against the American currency during the session. It finally settled at 83.50 (provisional) against the dollar, 6 paise lower than its previous close.
Global Factors Weighing on the Indian Rupee
A significant contributor to the Rupee’s weakness is the strength of the US Dollar in the international market. The greenback has been buoyed by expectations of further interest rate hikes by the US Federal Reserve to combat rising inflation. A stronger Dollar makes it more expensive for investors to hold Rupee-denominated assets, leading to outflows and pressuring the domestic currency.
Adding to the pressure is the ongoing volatility in global crude oil prices. Elevated oil prices widen India’s current account deficit, which is the difference between the value of a country’s imports and exports. A wider deficit can weaken investor confidence in the Rupee.
In addition to direct intervention, the RBI also communicates its monetary policy stance through regular statements and speeches. These communications can help to anchor investor expectations about future interest rates and inflation, which can indirectly influence the exchange rate.
Domestic Market Sentiment Dampens
The muted performance of the domestic equity market further dented investor sentiment. The benchmark indices, Sensex and Nifty, closed marginally lower on Tuesday, reflecting a cautious approach by investors. This cautiousness can be attributed to several factors.
Geopolitical tensions, concerns over rising interest rates, and global economic slowdown can all lead investors to adopt a risk-averse stance. In such a scenario, investors tend to shift their holdings towards safe-haven assets like US Treasuries and the US Dollar, away from riskier emerging market assets like Indian stocks. This outflow of funds from the Indian stock market can put downward pressure on the Rupee.
Experts’ Outlook: Decrease in Indian Rupee
Analysts remain divided on the future trajectory of the Rupee. Some experts anticipate a continued downward trend, citing the aforementioned factors. They believe the strength of the Dollar and elevated oil prices will keep the Rupee under pressure.
However, others point to potential mitigating factors that could arrest the Rupee’s decline or even lead to a rebound. A positive trend in the domestic markets, particularly a sustained rally in the stock market, could improve investor sentiment and attract fresh foreign inflows. This would increase the demand for Rupees, providing support to the currency.
The rupee depreciated 6 paise to settle at 83.50 (provisional) against the U.S. dollar on Tuesday, weighed down by a strong greenback in the overseas market and elevated global crude oil prices.https://t.co/J2f7qo4ZPe
— The Hindu (@the_hindu) July 2, 2024
Government interventions can also play a role in stabilizing the exchange rate. The Reserve Bank of India (RBI) has a set of monetary tools at its disposal to manage forex market volatility. These tools include open market operations, where the RBI buys or sells rupees to influence liquidity and exchange rates, and currency swap arrangements with other central banks. By strategically deploying these tools, the RBI can help curb excessive volatility in the Rupee’s exchange rate.
Foreign Fund Outflows
Foreign institutional investors (FIIs) are a category of foreign investors who invest in Indian securities, particularly stocks and bonds. When FIIs withdraw their funds from the Indian market, it reduces the demand for Rupees. This is because FIIs need Rupees to purchase Indian assets, and when they sell those assets and repatriate their funds, they convert Rupees back into foreign currency, typically US Dollars.
This conversion process increases the supply of Rupees in the foreign exchange market, relative to the demand for Rupees. As a basic principle of economics, when the supply of something goes up relative to its demand, the price tends to fall. In this case, the price refers to the exchange rate of the Rupee, which weakens due to the outflow of funds from FIIs.
RBI Intervention: A Potential Buffer
The Reserve Bank of India (RBI) has a set of monetary tools at its disposal to manage forex market volatility. These tools include open market operations, where the RBI buys or sells rupees to influence liquidity and exchange rates, and currency swap arrangements with other central banks. By strategically deploying these tools, the RBI can help curb excessive volatility in the Rupee’s exchange rate.
However, the RBI typically avoids frequent interventions to allow market forces to determine the exchange rate. The RBI’s approach is to intervene only when it deems the volatility to be excessive or disruptive to the economy. This measured approach helps to maintain the credibility of the Rupee as a market-determined currency.
