RBI willing to spend up to $100 billion to defend the rupee

Have you seen the rupee dangling around 80/$ levels and refusing to go beyond the 80/$ levels? Why does that happen? That is because, the RBI intervenes and sells spot dollars to improve the supply of dollars in the spot market. However, these dollars come from the RBI reserves and to the extent that the RBI sells dollars, its reserves see depletion. That has been visible in the falling reserves of the RBI. In the last few months the forex reserves of the RBI have fallen from a high of $647 billion to a low of $580 billion. That is the cost.

That brings us to the million dollar question; how much of the reserves can or should the RBI be willing to spend to defend the rupee. Normally, the RBI intervenes to prevent too much of volatility in the dollar market but at times it also goes aggressive and tries to defend the rupee around the key psychological levels. The recent level of 80/$ is one such psychological level that the RBI has defended quite stoutly for a fairly long time. But, finally we have an indication of how much the RBI would be willing to draw on its reserves.

According to a report in Reuters, based on inside sources but not yet official, the RBI would be prepared to sell about one-sixth of its foreign exchange reserves to defend the rupee against a rapid fall. To translate that into numbers, that would be approximately $100 to $110 billion that the RBI would be willing to spend to defend the rupee from weakening. However, with over $60 billion already spent, the RBI now has another $40 billion to $45 billion left to spend in its attempt to defend the rupee.
Why has this problem of defending the rupee become such a big priority now. Since the start of the calendar year 2022, the Indian rupee has lost over 8%, which is quite high by currency standards. It frequently has gone past the 80/$ mark but has again come below that mark on the back of RBI intervention. Now if the Reuters report is correct, then the RBI may be in a position to spend another $40 to $45 billion to defend the rupee, before it would just allow the rupee to find its own level. However, there is much more to this.

Today, the RBI does not intervene in currencies only through the dollar spot market. For instance, it does intervene and take positions in the non-deliverable forwards market based out of Dubai and Singapore. The RBI also regulates the supply and the demand of dollars through the dollar forward market that banks use to hedge. In the last few years, the RBI has also been intervening in the dollar levels through the listed derivatives market and has been aggressively taking positions in the currency options market. So it is not just spot.

Traders often complain that the rupee has fallen anyways, despite the RBI intervention. But, it would have been worse had it not been for the RBI intervention. In that case, the fall in the Indian rupee would have been far bigger and far more disruptive compared to the more organized depreciation of the rupee that we got to see. The good news is that even after the rapid drawdown due to RBI intervention, the RBI reserves of $580 billion remain the fifth-largest reserve positions in the world. That should give confidence to the central bank.

However, it is not too clear whether the RBI would spend a total of one-sixth of the reserve position from the base level or from the current level. Logically, the former looks like a more plausible and logical explanation. So, we may effectively have around $40 billion of reserves still available to defence the rupee against the dollar onslaught. It must also be remembered that the fall in the INR is in line with what is happening globally. Most of the EM currencies and even developed market currencies have fallen sharply against the dollar. 

One worry for India could be the spiking current account deficit, which threatens to go beyond 5% of GDP. But that would be an entirely different problem to address and will require a different forum altogether.