By Rudra Krishna / Mumbai
The rupee’s nose dive is hurting the economy in more ways than expected. One aspect that will take a hit is definitely growth as the RBI is now expected to wait longer to affect a cut in its policy rate. The central bank held its rate in the June review and indicated that the next rate cut move hinges on the exchange rate movement and the current account deficit situation.
The rupee today again hit 59.80, near the psychologically important 60 mark. Experts have opined that there are very few options left for the RBI to stem the fall in the currency and many of them predict that it will hit 62 level in the medium term.
According to a report, the central bank has just $290 billion in forex reserves. This can cover only seven months of imports. Given the global and local economic situation, there are not much dollar inflows forthcoming. So there is a limit for the RBI to intervene in the market.
Another factor that heightens the RBI’s dilemma is the inching back of inflation. The falling rupee is likely to push the wholesale price-based inflation back to 5 percent mark in the short term, economists have told the Times of India. The report quotes economists as saying that the costlier imports will offset the advantages of the falling global commodity prices.
“A 1% depreciation adds 15 basis points to WPI inflation. But, in a sluggish growth economy a 10% depreciation might add about 70-odd basis points,” Samiran Chakraborty, regional economist at Standard Chartered Bank, has been quoted as saying in the report. Of the options that the RBI has, one which it may find difficult to use is raising the policy rate.
According to Ajay Srivastava of Dimensions Consulting, the RBI may even be compelled to raise rates in its efforts to protect the rupee. Given the chaos in global markets, there is little the Indian government can do on its own, he told.
Morgan Stanley too said in a note that the downside risk to the rupee’s move is that it “tests the RBI’s patience and forces it to lift rates”.
The question is will the central bank have enough resolve to overcome the intense political and business pressure to cut rate and take such a drastic step at a time when the growth is at decade low.
Among the sectors that are likely to come under severe pressure is automobile, which is already in deep trouble due to demand slowdown. A weakening rupee compounds the auto sector’s troubles as they import components, which in turn increases their input costs.
“Any increase of input costs may lead to a further drop in already stagnating demand,” S Sethuraman, Director-Finance, Hyundai Motor India, has been quoted as saying in the ToI report. He sees the pressure on margins to heighten as companies are not in a position to raise prices in proportion with the input cost increase.
The lot who should be happy about the rupee’s fall is the exporters. This is because they will gain from the currency’s depreciation. However, not all of them are going to gain as the magnitude of the depreciation is higher than expected and most of them would have hedged their currency risk at higher rupee levels.
“Most large exporters had gone for forwards at 54-55. May be 55.80-56 to a dollar in June-July but we didn’t expect it to reach 60,” says HKL Magu, CMD of Jyoti Apparels, in another report. The bottomline is that when the currency depreciation is huge, nobody can be happy, not even the exporters.
Morgan Stanley expects corporate balance sheets to take a hit. The hit is concentrated among a smaller group of companies, it said. According to its estimate, forex liability of Indian companies is at around $200 billion. “A 5% move increases liabilities by US$10 billion,” it said. The worst-affected include Bharti, RCom, Tata Power, Ranbaxy, United Spirits, United Phosphorous, GESCO, Reliance Industries and Bhushan Steel (not in that order), it said.
There are, however, a few glimmers of hope too. Morgan Stanley expects the rupee move to hasten the adjustment on the external deficit. “The rupee is arguably at fair value and, combined with the government’s effort on fiscal consolidation, it will bring down the current deficit in the next few months. A declining twin deficit is good for equities,” it said in a report.
It also expects the sharp rupee depreciation to hasten reforms. “Indeed, one of the reasons for the shift in the government’s actions in September last year was the prospects of a sharp rupee depreciation (if the credit rating was downgraded) and its impact on inflation in an election year,” it said.
Another positive is a surge in inbound remittances from non-resident Indians, a report in the Economic Times said. If they remit money now they would make windfall gains only due to the rupee depreciation.
Most of the remittances India receive come from Europe and North America. In 2012, the amount stood at about $68 billion, the report said. Remittances are different from deposits and considered more stable as they are money send by migrant workers for use local, like family maintenance.
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