RBI Strategically Lowers Rupee Value to Boost Export Competitiveness

The recent decline of the rupee against the US dollar, enhancing India's export competitiveness, might be a deliberate result of strategic central bank measures to address the perceived overvaluation of the rupee. This perception arose after the real effective exchange rate (REER) surged to nearly a four-year peak in June.

After appreciating against the dollar in June, the rupee has continued to depreciate through July and early August. Money market analysts attribute this trend to potential actions by the Reserve Bank of India (RBI) aimed at restoring the rupee's export competitiveness by mitigating its relative overvaluation compared to other currencies.

"The overvaluation concern has been addressed by the RBI's top management," a knowledgeable source revealed. "Various factors, including the movement of other currencies and RBI's market interventions, have contributed to lowering the REER," the source added.

The REER evaluates a currency's value against a basket of other currencies, factoring in trade balances. A higher REER makes exports costlier and less competitive.

Recent data from the RBI indicated that the rupee's trade-weighted REER against a basket of 40 currencies stood at 106.54, signifying an overvaluation exceeding 6%.

The 1-month dollar/rupee non-deliverable forward (NDF) rate surged to 84.25 overnight due to concerns about the unwinding of the Japanese yen carry trade. It later retraced some of its gains, settling at 83.06/83.08. A currency trader at a bank noted that upward pressure on the dollar/rupee rate in both the NDF market and generally is "quite evident."

Monday's potential rupee losses were mitigated by the RBI's dollar sales in the onshore over-the-counter (OTC) market. In the onshore OTC market, there is "greater confidence" in RBI intervention compared to the NDF market, the trader mentioned. Historically, the RBI has intervened in the NDF market just before the onshore OTC market opens to stabilize the dollar/rupee spot rate, and this is likely to happen again, a forex dealer at a foreign bank suggested.

Asian shares bounced back from Monday's selloff triggered by US recession fears. Japan's equity index rose by about 10%, US equity futures advanced, and Indian equities were set to open higher.

Risk assets were buoyed by reassuring comments from a Federal Reserve official who stated that a weak July jobs report did not signal a recession, coupled with a strong US services data release.

Signs of stabilization are emerging, ING Bank noted. The US services report indicates the economy is "doing well," with growth, job creation, and inflation above target, according to James Knightley, Chief International Economist at ING Bank.

Investors are now anticipating 110 basis points of rate cuts by the US Federal Reserve this year, having previously expected up to 125 basis points on Monday.