Date : May 10, 2008

Weak Rupee Could Push Up India's Oil Import Bill

Export Sector May See Strong Employment Prospects As Rupee Seen Falling Further

PRICES may see further upward pressure, with the rupee weakening nearly 4.5% in eleven trading sessions. If the weakness in the domestic currency is sustained or worsens, the country's oil import bill could see a sharp rise, even with oil prices remaining constant.

However, the positive side of a weaker rupee is that Indian exports become cheaper, thus improving employment prospects in export-led sectors. Bankers see the rupee trading at 41.50-42 levels in the near to medium term, but are bullish over the longer term, since the India story overseas is quite intact. Treasury managers say that the three main factors contributing to a weaker rupee are muted capital inflows, current account deterioration and exporters who are sidelined. It may be recalled that in '07-08, portfolio inflows were the key trigger, causing the rupee to strengthen against the greenback. On Thursday, the rupee fell to 41.76, down nearly 4.5% from 39.95 on April 22.

Speaking on the sidelines of the central bank's board meeting in Shillong, Reserve Bank of India governor YV Reddy said that the weakening of the rupee against the dollar is due to global uncertainties. The central bank has also consciously kept away from intervening in the foreign exchange market, much against market expectations that RBI would come in, at least when the rupee breaches the 41.50-mark. It is now felt that the central bank may intervene once the rupee breaks the 42-mark.

Kotak Mahindra Bank chief economist Indranil Pan said, "Going forward, dollar-rupee rates would see two-way movements, but the rupee is likely to be broadly in the 41-42 bracket. With inflation consistently above the 7% level, it is safe to assume that the central bank will actively take liquidity tightening measures." However, some bankers believe that a slowdown in inflows would reduce pressure on the central bank to drain liquidity through out-of-turn bond issuances and hikes in the cash reserve ratio. A recent research report by HDFC Bank pointed out that there is enough momentum in the forex market to keep dollar-rupee exchange rates above 41-levels. HDFC Bank chief economist Abheek Barua said, "The rupee is definitely facing a lot of downward pressure. It may well continue to depreciate over the medium term, and it will be difficult to predict where it will stop, as there are no major foreign inflows in sight."

While the pipeline for forex inflows appears bleak, the first two quarters of this fiscal would also face a wider current account deficit and consequent buying of the greenback. Coupled with this, elevated oil prices would ensure that the balance of risks appears to be tilted towards a weaker rupee. There has been a drastic slowdown in funds entering the country, especially portfolio-related inflows. Due to the underlying uncertainty in the equity market, a strong rebound in inflows also seems unlikely.

JP Morgan forex strategist Vikas Agrawal said, "A lot also depends on what kind of action exporters resort to. Even though, the rupee is currently weakening, most large exporters have a long-term exposure. It remains to be seen at which point do these players begin hedging their long-term receivables. That would indicate the cyclical peak for the rupee."

Inflows are expected to rebound in the long run, amid uncertainties wearing off and softening of the global credit crisis. Given that the structural India story is still intact, the rupee should be able to retrace to 40-levels in a year's time, Mr Agrawal added. Standard Chartered Bank senior economist Suchita Mehta explained, "The rupee will depreciate this year because of a bout of generalised risk aversion and high oil prices. With dollar inflows set to slow because of the risk-aversion, the depreciation in the rupee is likely to continue. The rupee is likely to touch 43.5-levels by September."

Citi, in its recent research report, said that a likely deceleration in capital flows will limit the use of an appreciating currency to tame inflation. The rupee would trade in a broad range of 39-41 in '08-09, it added.

(Source: - Economis Times)