Analysts said the Indian central bank’s 2013 playbook to buffer the domestic currency against sharp declines and rebuild foreign exchange reserves is unlikely to prove useful in the current crisis as the economic fundamentals are very different.
India’s foreign exchange reserves have declined by about $110 billion from a peak of $642 billion in September last year, and although this is largely due to the fall in the value of holdings in the dollar and other currencies, another important reason is the currency. Central bank intervention. Market to save Rs.
The local unit fell nearly 11 percent against the US dollar in 2013, a slide that has already been found so far this year, with most market participants expecting a further decline by the end of 2022.
To protect the rupee, the Reserve Bank of India has dipped in its foreign exchange reserves. The latest available data released Monday shows it has sold a total of $43.15 billion since the start of 2022, including $4.25 billion this August.
Madan Sabnavis, Chief Economist, Bank of Baroda said, “Definitely rebuilding the forex reserves will be important. There will be urgency as the fundamentals are also unfavourable.”
The RBI, in July, announced some measures to liberalize foreign exchange flows, including giving foreign investors access to a larger share of government debt and giving banks wider opportunities to raise more deposits from non-residents. Is.
But these measures are not likely to be as effective as they were in 2013.
Reuters Graphic: India’s forex reserves
Back in 2013, the RBI offered to swap US dollars that banks had raised through foreign currency non-resident (FCNR) deposits or foreign currency financing for the rupee at concessional rates.
It swapped FCNR deposits with maturities of three years or more at a fixed rate of 3.5% per annum, which was about 3 percentage points lower than the market rates at the time, while it swapped foreign exchange funds at 1 percentage point below the market. Of. rates.
These two swap windows garnered approximately $34 billion in investments at a critical time, with $26 billion being invested through the FCNR route alone.
But these methods are no longer likely to be as fruitful.
“The FCNR deposit route may not be as effective this time around, due to factors such as a narrower US-in rate spread and less aggressive rate hikes in 2013 this cycle,” said Radhika Rao, senior economist at DBS Bank.
This time, with India’s 3-year bond yield of 7.5 per cent and US yielding 4.5 per cent, the 3 per cent spread is unlikely to help investors make any gains on a purely hedging basis, as the current hedging cost is around 6.5 per cent. – Is. 7 percent. The gains are unlikely even if the RBI has offered a relaxation window, which it has not done so far.
Vivek Kumar, senior economist at QuantEco Research, said, “On a purely hedging basis, a uniform level of subsidy will not suffice. Either a drastic hike in domestic rates or the RBI will have to increase subsidies to make things work.” “
Reuters Graphic: Indo-US 10-year bond yield spreads in basis points
To add to the problems, India’s economic foundation has also weakened.
The current account deficit is widening and is expected to remain above 3 per cent of GDP for the current fiscal ending March 2023.
With capital flows also becoming volatile, economists expect the balance of payments to be negative, leading to further depletion of reserves.
And while reserves at current levels are enough to cover more than eight months’ worth of imports, analysts say continued shortages could be cause for some concern.
“If the current account deficit remains above 3 per cent of GDP, a fall below eight months of import cover (around $500 billion) may start attracting market attention,” said Kumar of QuantEco.
“If reserves reach six months of import cover, that is, about $380 billion, panic conditions indicating a forceful policy response could arise.”
Analysts said that while short-term reforms may provide intermittent relief, policymakers will have to continue to focus on strengthening the structural macro buffer.
Sabnavis of Bank of Baroda suggested floating sovereign bonds like Resurgent India Bond (RIB) India Millennium Deposit Bond (IMD) in the past to help boost forex reserves.
“Such measures can directly bring dollars in,” he said.
Sabnavis said that if the dollar continues to strengthen, the rupee may weaken to 82-83 levels in the near future and fall to 84. The local unit is currently at 82.28 per dollar.
“It is difficult to really assess the level, and depending on the response of the RBI, the expectations are favourable.”