These days, an incident is happening in the international market, which has surprised even the biggest economic pundits. When currencies around the world were succumbing to the dollar due to the Iran war and rising crude oil prices, the Indian rupee made a spectacular comeback at the level of 92.41. Till Friday it appeared to be standing firmly at 92.59 per dollar. Behind this spectacular recovery is such an aggressive step by the Reserve Bank of India (RBI), which has broken the backs of those betting on the dollar, but has also drawn lines of worry on the foreheads of foreign investors.
RBI’s ‘surgical strike’
The story of this strengthening of rupee starts at the end of March. A game of deliberate weakening of the rupee (short positioning) was going on in the foreign markets. To stop this, RBI took a very strict step. The central bank limited banks’ daily currency positions in local markets to $100 million. This one decision brought a tsunami in the market. Banks and speculators had to hastily close their arbitrage trades (profit-taking deals) worth about $30 billion. When this did not work, RBI also banned banks from trading in the offshore derivatives (NDF) market. Those who were betting on the rupee falling without buying dollars, their entire game was over in the blink of an eye.
The loss of crores of banks is hidden behind the ‘fate’ of the dollar.
The rupee has certainly turned the tables, but a heavy price is also being paid for it. This sudden decision has dealt a major blow to the banking sector. According to estimates by financial advisory firm Jefferies, this forced unwinding could cause a loss of about Rs 5,000 crore ($539 million) to banks. SBI, the country’s largest bank, is likely to suffer a loss of around $32 million. Moreover, the cost of hedging in the market has reached its highest level since 2013.
Panic among foreign investors, might the bet turn upside down?
This move by RBI may have given immediate relief to the rupee, but it has created fear of policy instability among foreign investors. Since the ‘Taper Tantrum’ crisis of 2013, India had implemented several liberalization policies to woo foreign investors. Due to these policies, India got a place in JP Morgan’s Global Bond Index in 2024. But now foreign investors feel that India is again returning towards a closed economy. The fear is that foreign investors have withdrawn approximately $1 billion from their bond holdings. Economists at Bank of America have also clearly warned that this step could undo the reforms of the last decade.
Will this strength last?
India is an oil importing country. If crude oil prices remain high for a long time due to the Iran war, India’s current account deficit is sure to increase. However, the two-week ceasefire between America and Iran has given some breathing room for now. RBI Governor Sanjay Malhotra has also tried to calm the market by saying that these restrictions are not forever and this is not a permanent policy change.