January 16, 2022
  • January 16, 2022

Rupee could see better days as RBI eases forward intervention

By on June 14, 2021 0

The futures segment of the forex market has seen some sort of upheaval in the past couple of months. The premium for reserving dollars at a future date had increased steadily at first until March, then fell sharply this month. The reason for this movement is a factor that can determine the fortune of the Indian rupee in the future.

Term premiums have fallen sharply since April as the Reserve Bank of India (RBI) has reduced its intervention intensity in this segment. After accumulating $ 73.2 billion in futures contracts outstanding through February, the central bank began to unwind them, mainly by taking delivery of the dollars.

This exceptional futures position edged down to $ 72 billion in March, and analysts believe April and May would show a steeper drop. Those at UBS estimate that the central bank unwound $ 12.5 billion in futures contracts in April.

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Break away

This is a signal that the central bank will no longer engage in major interventions in the futures market, analysts said. The RBI details the data on its interventions in the foreign exchange market with a lag of two months.

The RBI’s forex intervention policy, including tactical changes such as using the spot or futures market to intervene, is a corollary of its juggling act to deal with its oldest problem of the impossible. trinity.

At all times, a central bank must choose between a stable currency, stable inflation, and independent monetary policy. For the RBI, this problem has been exacerbated by the pandemic.

The resumption of growth requires low interest rates and excess liquidity. A weaker currency is also needed as it makes exports competitive. This explains the RBI’s foreign exchange interventions in the wake of the sustained inflows of dollars. But when the RBI buys dollars, it adds rupees to the system. To avoid this, the central bank buys dollars at a future date, on the futures market.

What can upset this plan is a rise in inflation and the need to reduce hedging costs. With India being a net importer, a low rupee adds to inflationary pressure and this is especially true in the present case where much of the inflation is due to soaring world commodity prices.

“In the current environment, the need for low interest rates and reduced currency hedging costs outweighs liquidity considerations, allowing more direct cash intervention and an increase in foreign exchange reserves”, explain the Barclays analysts in a note.

The result is that the rupee is unlikely to see the central bank keep the pressure on.

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