Sounds scary, but that day may not be far off
In the last few weeks, the Indian rupee has shown some distinct weak signs. From a level of around 64/$ a year ago, the INR has weakened closer to the 68/$ mark in the first week of May. Broking reports are already indicating INR at beyond 70/$ by end of the year. On the last two occasions in 2013 and later in 2016, the INR did dip as low as 69/$ but managed to recover on the back of RBI intervention. This time around, we may actually see the INR dip below the 70/$ mark. Here is why!
Weak macro financials
The first impact on the INR was felt when the Union Budget was announced in February 2018. The 30 basis points spillage in the fiscal deficit for 2018 and 2019 were indicative of fiscal stress on the macros. Then there is the pressure on the trade deficit front. In the previous year, the trade deficit averaged around $12-13 billion per month. This fiscal, the trade deficit is likely to average around $15-16 billion per month. That is the kind of number that will surely put pressure on the INR. If crude manages to scale $80/bbl, then the trade deficit could get sharper than that. Then we come to the current account deficit (CAD). With the services exports not able to keep pace and trade deficit rising, the CAD has crossed the 2% mark decisively. That is normally the mark where the INR comes under pressure. These deficits are most likely to put pressure on the Rupee.
Inflation and crude oil
The INR is also likely to weaken because the RBI will try its best to temper the interest rates even as inflation will be higher. Higher food prices and dearer oil will keep CPI inflation above the 5% mark. If the interest rates are adjusted upward then it may not impact the INR too much. But with the GDP growth just about picking up, the government may be averse to playing spoilsport by raising the interest rates beyond a point. Corporates are already worried as borrowing costs have gone up by 100 basis points even for the most blue-chip borrowers. Irrespective of what the Fed does, the RBI is unlikely to push up rates beyond 25 bps. That means; the INR will remain under pressure!
Good for exports
The RBI has not shown any urgency in intervening in the dollar market, and right so. A weaker rupee is what exporters have been calling for a long time but that has not really happened. Even at Rs.70/$ the INR will still be overvalued in REER terms. But at least, it will be a boost for the exports of goods and services. The software industry has been struggling for a long time under a strong INR and this should help widen the services surplus. Also, a weaker rupee will make imports more expensive and automatically reduce the trade deficit. So 70/$ is surely coming and it is a reason to celebrate! ©