The rupee on Monday fell to a fresh two-year low, breaching the crucial 66-mark. In fact, it is now nearly 67 to a dollar. This was despite the dollar's weakness in the global markets against emerging market currencies.
The rupee on Monday fell to a fresh two-year low, breaching the crucial 66-mark. In fact, it is now nearly 67 to a dollar. This was despite the dollar's weakness in the global markets against emerging market currencies.
This tumble in the rupee, although set sail by China's devaluation of its currency two weeks back, has been gaining wind on the back of increased dollar demand from exporters, a sustained departure of foreign funds from the market, and of course, worries about China's economic growth.
During the tailspin, the Reserve Bank of India's governor, Raghuram Rajan stepped in to say that the Indian currency is in a better position than other economies. He also indicated that the RBI may intervene to cap the rupee's fall. Rajan said that the RBI may use the country's $380 billion Forex reserves.
But should RBI use its precious dollars to save the rupee?
History indicates that whenever RBI has stepped in to cap the fall in the rupee against the dollar, the Indian currency has either stagnated, weakened further or recovered only for a short term.
In December 2014, RBI sold dollars worth around $500 million to curtain the rupee's fall against the dollar. However, despite this, the rupee fell its lowest since November 2013 when state-owned banks like Bank of Baroda, Canara Bank and State Bank of India were seen selling dollars.
Before that, in 2013, RBI had stepped in to stop the rupee from weakening against the dollar after the Indian unit weakened against the greenback. FIIs withdrew nearly Rs 40,000 crore in a month sending the rupee into a tailspin. During this time, India's forex reserves werent adequate, prompting the central bank to resort to other measures, like increasing margin money on futures exchange, asking oil companies to buy dollars from a single bank and so on. This, rather than doing the intended job, tightened the market further, this report by Business Standard says.
Even after the intervention, the rupee had stayed more or less at the same level, prompting the view that markets had seen through the apex bank's stance.
What these moves suggest is that RBI is running out of options in controlling the currency, the report said.
Another attempt by the RBI to intervene in 2013 also failed to meet its purpose. A report by Rediff said that an intervention in the currency market is opposite to the stance the apex bank usually maintains, ie. 'RBI doesn't believe in exchange rate targets and leaves it to market forces'. Ratings agency Crisil had pointed out that in order to achieve macro-financial stability, RBI's intervention may have compromised financial stability at the micro company level at the time.
RBI's move to hold the rupee by cutting surplus liquidity from domestic markets has the potentional to set the process of economic recovery back quite sharply, ultimately defeating its very objective, the report observed.
Looking at how an intervention to stop the rupee's fall has panned out in the past, the RBI should save its precious dollars -- $380 billion to the last count – and let the market do its job.
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