RBI may have let rupee rise 2% to fight inflation pressures

By Ronojoy Mazumdar

The rupee’s outperformance last month that turned it into Asia’s best performer may be indicating the central bank’s higher tolerance for a stronger currency with the focus on curbing imported inflation, analysts said.

The currency rallied 2% in May, the biggest monthly advance in more than two years, as Covid cases eased, and analysts attributed the move to a change in the Reserve Bank of India’s currency policy as evident in foreign-exchange reserves accretion slowing to $4.9 billion from about $9 billion in April.

Global crude oil prices have surged more than 25% this year and that along with commodity prices near record highs poses a risk to inflation in a net oil importing nation. Investors will focus on the central bank’s monetary policy review on Friday for its assessment of inflation, and is expected to keep rates on hold given the still fragile state of the economy ravaged by the pandemic.

“Oil prices have crossed $70 a barrel and that risk is one of the main reasons the RBI is seeking to not intervene aggressively,” said Kunal Sodhani, assistant vice president at Shinhan Bank in Mumbai. “If the dollar-rupee exchange rate is lower, it can help with the import bill,” which forms a substantial chunk of imports, he said.

Bloomberg

The RBI didn’t immediately respond to a request for a comment. Though, in August last year, when the rupee gained 1.6%, it said a stronger currency helps in containing imported inflation.

India relies on imports to meet about 80% of its energy needs and higher costs may unsettle the government’s fiscal math. A 1% move in the exchange rate translates into a 15 basis point change in headline inflation, according to the RBI study.

India’s wholesale prices accelerated at the fastest pace in more than a decade in April, while core inflation also remained sticky above 5%.

The rupee’s gains have also been bolstered by a reduction in daily Covid-19 cases to less than 200,000 from over 400,000 last month. Lucrative carry returns and share-sale related inflows have also helped. The rupee was down 0.3% to 72.86 per dollar on Tuesday.

The RBI may have gone slow on its intervention as accelerated dollar purchases would have further added to a glut of rupee liquidity at a time when it’s already injecting funds through its bond purchases.

“Most importantly, the RBI has eased on its intervention,” contributing to rupee’s gains, said Sanjay Mathur, chief economist for Asean and India at Australia & New Zealand Banking Group Ltd. in Singapore. “This is a significant change in the reaction function.”

–With assistance from Anirban Nag



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