Govt's Intervention To Defend Rupee Takes Large Bite From Forex Reserves

The rupee declined about 6.8 per cent against the greenback in 2022, which is a much smaller loss than that of most of its peers

The intervention by the central government to protect rupee from further depreciation is running down foreign exchange (Forex) reserves at a rate that’s poised to eclipse the drawdown during turmoil a decade ago, reported by news agency Bloomberg.

According to the report, while economists and the Reserve Bank of India (RBI) aren’t ringing any alarm bells just yet, investors are watching closely given the rupee’s slump to an all-time low last month and the risk of a widening in the current account deficit. Given a steady build-up in the reserves through to their peak last year, the rupee remains at a much healthier level than during the previous period that covered part of the Eurozone crisis and the taper tantrum triggered by the Federal Reserve.

The Indian currency tumbled nearly 30 per cent against the dollar between September 2011 and September 2013 during that crisis period, making it one of the worst-performing emerging-markets currencies at the time. The rupee declined about 6.8 per cent against the greenback in 2022, which is a much smaller loss than that of most of its peers.

Meanwhile, the rupee on Tuesday appreciated 16 paise to 79.65 against the US dollar in early trade in line with a positive trend in domestic equities.

According to RBI data, the central bank does need to be mindful that foreign exchange reserves have declined by $90 billion from their September 2021 peak of $641 billion, a drop of 13.9 per cent. The drop in the two years a decade ago was 14.3 per cent.

“Falling FX reserves, persistently-high commodity prices, limited exchange rate pass-through to inflation and elevated INR valuations will likely tilt the balance towards a less interventionist FX policy in coming months,” Madhavi Arora, lead economist at Emkay Global Financial Services Ltd., said in a note. The drawdown has reduced the import cover these reserves provide to nine months, still above a standard benchmark of three months, but far below the 19 months at the beginning of 2021.

Meanwhile, economists at Citigroup Inc. have forecast India’s current account deficit to reach 3.9 per cent of gross domestic product in the fiscal year through March, versus 1.2 per cent last year. This would be expected to weigh on the rupee and increase pressure on the RBI to intervene to reduce the sharpness of declines.

RBI Governor Shaktikanta Das maintains that the level of reserves and the banking system are both healthy and well placed to handle any external shocks so far. The central bank has said it expects India's current account deficit to stay within 3 per cent of GDP, which it judges to be sustainable amid softening global fuel, food, and fertiliser prices while portfolio flows and exports pick up.