IBSPECIAL

The rupee breached the psychological barrier of 80 per dollar on Tuesday after hovering around that mark for the last few days, raising concerns over high imported inflation.

While experts cautioned that there is no reason to panic, the dark clouds surrounding the rupee remain. The fear of a free fall of the rupee may be unjustified but the war in Ukraine, the chief culprit for the weakening of the Indian currency against the dollar, shows no signs of shedding intensity and the Reserve Bank of India (RBI) has to continue actively intervening in the market to prevent a steeper slide.

“Global factors such as the Russia-Ukraine conflict, soaring crude oil prices and tightening of global financial conditions are the major reasons for the weakening of the Indian rupee against the US dollar,” Union Finance Minister Nirmala Sitharaman said in a written reply to Parliament.

We can’t even mildly celebrate the rupee appreciating against major currencies such as euro and the Japanese yen. While the rupee has depreciated by over 7% since this January, the British pound, the yen and euro have weakened more against the US dollar. But much of India’s trade, including crude oil, is done in terms of the dollar. The greenback, which lubricates the global economy, has touched a 20-year high.

"The ‘mighty’ dollar has gotten mightier. Despite perceptions of the decline of American influence globally, the dollar is still the currency of safety," Anand Mahindra, the chairman of Mahindra group, said on Monday through his Twitter account.

Shielding the rupee can only be a multi-pronged effort. You will not only have to worry against high inflation but also rising interest rates, growth in the economy, current account deficit and flight of global capital from domestic markets. All these influencers, connected in many ways, can deteriorate even as the world is hostage to the new geopolitical hostilities centring around the Russia-Ukraine war.

We need to worry about what is happening across the world. Inflation in the US touched a new four-decade high of 9.1% in June, promising more interest rate hikes to be carried out by the Federal Reserve in a series until core prices fall within a target limit. A higher interest rate in the US will continue to trigger foreign capital outflows from the Indian market.

Inflation has moved centre stage as rising prices have lowered real pay, put pressure on household budgets, squeezed living standards and impacted consumer spending. As central banks toughen their anti-inflation stance across the world, hiking interest rates is on everyone’s table. And there are no signs that inflation may be peaking.

The winter months can be really bad in Europe with energy bills further inflating. The bad news has not even stopped before that. Inflation in the UK, just announced, has hit a 40-year high of 9.4% in June. In most parts of the world, food and fuel prices are rising.

The fright is growing that we are heading towards global recession. “It is going to be a tough 2022 – and possibly an even tougher 2023, with increased risk of recession,” International Monetary Fund (IMF) managing director Kristalina Georgieva wrote in a blogspot.

Even before the war, the world was running into conflict over several issues. While America and China were fighting for supremacy, supply chains were getting disrupted, the Covid pandemic was inducing huge loads of government spending, concerns were raised over glaring class inequalities, populist leaders were being pitched against the democrats, and economies were getting messier.

The war in Ukraine brought into open a dividing line between a power structure that leant on fossil fuels and the one that wanted to replace it with renewable energy. The oil-rich countries like Saudi Arabia are on Russian president Vladimir Putin’s side while America has united the European countries. China is with Putin as it senses an opportunity to expand its influence over world politics beyond its fight with the US over trade, technology and economy.

A war of ideas has intensified. China has brought into question the US-led world order which, it claims, has been responsible for hostilities. While the US has been expanding Nato in Europe to isolate Russia, the QUAD (Quadrilateral Security Dialogue) is being created for the Asia-Pacific region to contain and encircle China.     

Though the US, China and Russia are claiming ideological grounds, the lines are not so simplistically drawn. We can’t even call it a war between democratic forces and dictatorial regimes. American president Joe Biden has been visiting Saudi Arabia to win the oil-rich country’s support while during his election campaign he had said the kingdom should be treated as a pariah and criticised the regime’s role over the brutal murder of Jamal Khashoggi, a Saudi journalist. "We're not going to leave a vacuum in the Middle East for Russia or China to fill," Biden told reporters after his meeting with Saudi king Salman and crown prince Mohammed bin Salman in Jeddah.

Currencies of countries are caught in this battle for reshaping the world order even as Russia and China are making fragile attempts to unseat the dollar from its throne. As a step to strengthen the Russian currency and counter Western sanctions, Putin has asked for payment in roubles for gas sold to ‘unfriendly’ countries. China has been working on how to boost the yuan and has been pushing its digital currency, the e-yuan. In India, the RBI has asked banks to put in place a mechanism to settle international trade in rupees.

In the backdrop of the strengthening of the US dollar index and imported inflation, the rupee has little chance of going on an upswing. The RBI, however, has defended the Indian currency against a sharper fall by actively intervening in the market. The central bank is prepared to sell a sixth of its foreign exchange reserves to prevent the rupee against a rapid depreciation, according to a report by Reuters.

During these turbulent days, India’s forex reserves have fallen by $62 billion from its peak of $642.45 billion in September 2021. But the RBI still has enough ammunition to prevent any jerky depreciation of the currency, with India’s forex reserves of $580 billion being the fifth largest in the world.

Currency experts say the rupee could slip to 81 per dollar but a further dip to 82 is unlikely as oil prices have come down from their June peak and inflation could see some cooling. The dollar index has also softened from multi-year highs. 

The inflationary pressures, however, stay volatile and despite small gains towards the close on Tuesday, the rupee started falling again the next day. Dollar demand from oil importers pushed the rupee to a fresh closing low of 80.05 against the US currency on Wednesday.

The fate of the rupee will depend on global inflation, rate hikes by central banks, the war in Ukraine and how the world order takes shape.