The rupee is back in trouble. Just weeks after New Delhi launched one of its most aggressive campaigns to attract dollars from overseas Indians, the currency has slid back towards near record lows against the US dollar, raising questions about whether even tens of billions of dollars from the diaspora will be enough to offset mounting pressure from higher oil prices and Middle East tensions. Late on Tuesday, Goldman Sachs warned that oil prices could surge above $120 a barrel by the end of the year if disruptions in the key Strait of Hormuz persist.0
Banks across India, Britain, the Gulf, Singapore and Hong Kong have spent the past month pitching what many are describing as a once-in-a-decade opportunity to wealthy non-resident Indians. Some lenders are offering investments that can generate returns of as high as 14 per cent while others are allowing investors to borrow many times their original deposit to supercharge gains.
The pitch has been simple: bring your dollars back and be rewarded richly. But despite the sales blitz and a flood of foreign-currency inflows, the rupee has continued to weaken.
India’s dollar hunt has already attracted more than $20 billion through special central bank-backed schemes aimed at pulling foreign currency into the country. Officials are hoping total inflows could eventually reach between $40 billion and $60 billion, with some forecasts stretching towards $70 billion.
Yet the rupee has stubbornly refused to respond. While it traded virtually flat on Tuesday at 96.2350 against the dollar, it remains Asia’s worst-performing major currency this month. The rupee has lost nearly 2 per cent, wiping out all of its gains from June.
The reason starts with oil and the conflict in the Middle East. India imports around 88 per cent of the crude oil it consumes. Every time oil prices rise, India must spend more dollars buying energy from abroad. That increases demand for the greenback and puts downward pressure on the rupee.
A falling rupee is bad news for India because it makes everything the country buys from abroad, especially oil, more expensive. That means a bigger import bill, a wider trade deficit and higher prices for fuel, transport and everyday goods.
In the three months to June alone, the cost of importing crude has jumped nearly 60 per cent year-on-year. This fuels inflation, which is already running at 4.38 per cent, above the central bank’s target.
The latest slide in the currency comes as energy markets are gripped by fears of further disruption across the Middle East. US-Iran tensions have escalated, while Yemen’s Houthi movement has threatened shipping routes and declared a naval blockade against Saudi Arabia.
Any escalation raises the risk that oil and fuel cargoes moving through some of the world’s most important maritime waterways could be disrupted.
For India, that is a risk-laden scenario. Any disruption that drives crude prices higher would inflate the country’s import bill and increase demand for dollars, adding further pressure on the rupee.
Many investors expected the Reserve Bank of India to defend the currency more aggressively. Instead, the central bank has largely stood back, intervening only from time to time. Traders who assumed the RBI would defend certain levels have been caught off guard as the rupee continued to weaken.
There is reportedly growing support within the central bank for allowing market forces to play a larger role in determining the rupee’s value. Governor Sanjay Malhotra and Deputy Governor Poonam Gupta are in favour of intervening mainly to smooth volatile currency movements rather than defend a particular exchange rate.
Their view is that currencies should adjust to changing economic realities, including a larger oil import bill.
That marks a significant shift from the approach under the central bank’s previous leadership, when the rupee traded within a relatively narrow range and markets had a clearer sense of when the RBI might step in to support the currency.
Now, hedge funds that had abandoned pessimistic bets on the rupee earlier this year have become bearish again after the currency broke through levels they believed the RBI would protect. More traders are betting the rupee will weaken rather than strengthen.
Meanwhile, New Delhi’s dollar raising drive rolls on with Finance Minister Nirmala Sitharaman calling upon banks “to further intensify outreach to the diaspora.”
The centrepiece is a special Foreign Currency Non-Resident deposit programme backed by the RBI that reduces banks’ currency risk and allows them to offer unusually attractive returns.
“Preventing further currency depreciation” is one of “the central macroeconomic imperatives,” the government’s Chief Economic Advisor V. Anantha Nageswaran says.
The campaign has become a full-scale global sales effort. To persuade wealthy members of India’s 35-million-strong diaspora to bring their dollars home, the RBI has removed much of the risk for banks.
This has enabled lenders including HSBC, Standard Chartered, SBI and Axis Bank to pitch attractive deals. Some banks will even lend investors up to 19 times the amount they deposit, turning a relatively modest investment into a potentially much larger money-making opportunity.
There are encouraging signs. So far, overseas Indians have already sent more than $20.72 billion, including $17 billion poured into special foreign-currency deposits, according to official data released Tuesday.
Economists describe the response as a healthy start. Some expect inflows could accelerate sharply during August and September as the programme approaches its deadline.
Yet there are reasons for caution. Banks have discovered that many of the largest deposits are coming from a relatively small pool of wealthy investors. Some lenders are focusing primarily on customers willing to deposit more than $1 million, while tax issues and compliance concerns have curbed enthusiasm among overseas Indian communities, particularly in the United States.
In other words, attracting the next $20 billion may be harder than attracting the first.
There is also a financial cost. If the rupee weakens sharply, the RBI could end up footing a sizeable bill because it is absorbing the repayment risk behind the scheme. Some estimates suggest the annual cost could reach as much as $1.5 billion if inflows hit $50 billion and the rupee falls further.
The eventual repayment burden could “prove onerous if not renewed on maturity,” said Madan Sabnavis, Bank of Baroda chief economist, commenting in Mint.
India has successfully mobilised billions of dollars from overseas Indians, but the forces pushing the rupee lower may prove harder to overcome. While the dollar scheme is attracting investors, the country’s appetite for the greenback may be growing even faster.
