Global uncertainties are going to keep the pressure on rupee despite sharp interest rate increases from the Reserve Bank of India (RBI). 

The weakness in the Indian currency, RBI said, did not reflect the macro-economic fundamentals in the country. Rather, the softening of the rupee was due to the strengthening of the dollar due to global tensions on the aftermath of the Russia-Ukraine war. 

Experts expect the rupee to stay range bound between Rs 78.80 to Rs 79.60 to the dollar over the next week.

During the current financial year through to 4 August, the US dollar index (DXY) has appreciated by 8% against a basket of major currencies, according to the RBI’s bi-monthly monetary policy statement issued on 5 August. During this period, the rupee has moved in a relatively orderly fashion depreciating by 4.7% against the US dollar.  The Indian currency has fared much better than several reserve currencies as well as many of its EME and Asian peers.

“The depreciation of the Indian rupee is more on account of the appreciation of US dollar rather than weakness in macroeconomic fundamentals of the Indian economy. Market interventions by the RBI have helped in containing volatility and ensuring orderly movement of the rupee,” the central bank said in its monetary policy statement. 

On 19 July this year, the rupee also touched its all-time low — 80 per dollar. Ahead of the RBI’s policy meeting outcome, the rupee appreciated 46 paise to Rs 78.94 against the US dollar in early trade. However, later, it fell to  Rs 79.16 a dollar.

“We remain watchful and focused on maintaining the stability of the Indian rupee,” said RBI Governor Shaktikanta Das while presenting the monetary policy statement.

The RBI intervention in the market has helped contain volatility and ensure orderly movement of the rupee. The global tensions have led to foreign portfolio investors withdrawing from emerging markets.

“The RBI’s policy tightening is also warranted to reduce pressure on the rupee from widening the current account deficit (CAD), while aggressive monetary policy tightening by major advanced economies could impart volatility to capital inflows. The Fed has indicated its sole focus on fighting inflation, which remains at decadal highs and way above its target,” Crisil said.

 The rupee closed stronger by 23 paise on Friday after RBI announced its third hike in a row  when it raised repo rate by 50 basis points to 5.40%. “The strength of the

“USDINR spot closed 23 paise lower at Rs 79.24, thanks to the fall in oil prices and 50-bps hike from RBI. RBI delivered a hawkish guidance, hinting that more hikes are needed to bring inflation within its targeted band. We expect repo rate to head towards 6% before it peaks. This should allow real rates to support rupee via carry trade,” said Anindya Banerjee, vice president, currency derivatives & interest rate derivatives at Kotak Securities.

“The global uncertainty will prevent any significant appreciation in the rupee. Therefore, we are looking at a range of 78.80 and 79.60 on spot over the next week,” Banerjee added.

With  a 140-bps increase in repo rate since 4 May, the RBI may have frontloaded the rate hikes. Experts say it remains to be seen how this influences the trajectory of rupee over the medium term.

While the rupee did witness a smart recovery after the policy announcement, it was unable to hold onto the gains.

“Research suggests that countries with low prior FX reserves are more likely to choose an interest rate defence than countries with high reserves. This is probably not the case for India which has FX reserves of $572 billion,” said a research report from the State Bank of India’s economic research department, SBI Ecowrap. 

Further, defending the currency through interest rates could also indicate the market participants getting into a self-fulfilling prophecy of expecting more rate hikes to automatically protect the domestic currency whenever it is under pressure. “However, in a situation when current account deficit is likely to cross 3.5%, raising the rates might be the best carry trade bet to finance the large CAD, the report added.