Indian Rupee May Rise Slightly, RBI Stands in the Way of Big Appreciation

The Indian rupee may appreciate marginally against the U.S. dollar in the coming months, as the country’s economic recovery and strong foreign inflows support the currency. However, the Reserve Bank of India (RBI) is likely to intervene in the foreign exchange market to prevent a sharp appreciation that could hurt exports and growth.

The rupee has gained about 2.5% against the dollar so far this year, making it one of the best-performing Asian currencies. The currency has benefited from a rebound in domestic activity, a surge in foreign direct investment and portfolio flows, and a narrowing current account deficit.

According to a Reuters poll of 50 analysts, the rupee is expected to trade at 74.00 per dollar in six months and 73.50 in a year, compared with 74.35 on Wednesday. This implies a modest appreciation of 0.5% and 1.1%, respectively.

However, the rupee’s upside potential is limited by the RBI’s intervention strategy, which aims to curb excessive volatility and build up foreign exchange reserves. The RBI has bought a net $51.9 billion in the first nine months of this year, taking its reserves to a record high of $642.5 billion as of October 29.

The RBI’s intervention has also helped to keep the rupee’s real effective exchange rate (REER) stable, despite rising inflation and interest rates. The REER measures the rupee’s value against a basket of currencies adjusted for inflation and trade weights. A higher REER indicates an overvalued currency that could hurt competitiveness.

According to the RBI’s latest data, the rupee’s REER was 113.8 in September, slightly below its long-term average of 114.6. This suggests that the rupee is not significantly overvalued and does not pose a major threat to exports.

However, some analysts warn that the RBI may have to ease its intervention if the U.S. Federal Reserve starts to taper its bond-buying program and raise interest rates next year, which could boost the dollar and put pressure on emerging market currencies.

The Fed is expected to announce a reduction in its monthly asset purchases at its meeting on Wednesday, and may start to hike rates as early as mid-2022, according to market expectations.

If the Fed tightens its monetary policy faster than expected, the RBI may have to allow the rupee to depreciate to maintain its external balance and avoid capital outflows.

Disclaimer: This article is not intended to be investment advice or recommendation. Please do your own research and consult a financial professional before making any investment decisions.