India has introduced stringent measures to stabilize the rupee, which has been under significant pressure due to rising oil prices and global bond yields. The Reserve Bank of India (RBI) announced these steps on Saturday, aiming to redirect the dollar demand of oil companies away from the spot market and impose tighter controls on hedging activities.
To alleviate the strain on the spot market, the RBI will open a special window to meet the daily dollar needs of three state-run oil-marketing firms: Indian Oil, Hindustan Petroleum, and Bharat Petroleum. This arrangement allows these companies to acquire dollars directly from the central bank's foreign exchange reserves, a strategy previously employed during periods of currency stress.
Following the announcement, the rupee saw a modest recovery, strengthening by about 0.6% against the dollar in the non-deliverable forward market, although trading volumes were thin. The move is expected to reduce volatility by removing a significant to Dhiraj Nim, an FX strategist at ANZ Bank in Mumbai. However, this will also result in a depletion of the country's reserves.
The RBI is also tightening rules on speculative corporate activities and increasing the cost of protection against further rupee depreciation. A person familiar with the central bank's strategy, who spoke on condition of anonymity, indicated that these measures aim to moderate destabilizing derivative demand and enhance the verification of underlying exposures.
Forex dealers are now required to maintain a 20% "foreign exchange risk reserve" on derivative contracts used for hedging current account transactions. This applies to transactions with a notional value exceeding $2 million. The reserve requirement is intended to discourage excessive hedging by raising the cost of buying protection against rupee weakness.
In addition, the RBI has significantly reduced the limits on the size of derivative transactions that users can undertake without proof of underlying exposure, lowering the cap from $100 million to $5 million. This new cap applies to all derivative products, including exchange-traded futures.
These measures come after more than $140 billion in capital inflows were raised through policy steps designed to encourage overseas FX deposits and offshore borrowing by state-run firms and banks. Despite these efforts, and a recent rate hike, the rupee continues to face downward pressure.
ANZ's Nim cautioned that while the new measures might ease some pressure on the rupee, they are unlikely to eliminate it entirely. "The underlying drivers, including oil prices and capital flows, remain, " he noted.
