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Are tough times ahead of rupee amid global headwinds, fiscal risks?

Share Written By
Rahul Gupta

Head of Currency - Research

30 Nov 2019

The US-China trade war, which began in July 2018, continues to make the market suspicious. The ongoing tariff brinkmanship has put tremendous pressure on the business activity in China and the rest of the world.

This overextended trade deal, along with a slowing domestic economy, continued to keep the Indian rupee on an edge throughout 2019. After depreciating by 8.45 per cent in 2018, the overall movement was in a broad range (68.30-72.40) with the depreciation of another 2.2 per cent in 2019.

The Reserve Bank of India’s continuous cutting of its benchmark repurchase rate since February 2019 to a total of 135 basis points further added to the downdraft in the rupee.

RBI may once again cut rates by 15 bps at a December 5 policy meeting. However, this can possibly be the end of the easing cycle for this fiscal year as CPI (4.36 per cent) has elevated and crossed RBI’s medium-term target of 4 per cent.

The spread between India’s 10-yr bond yield and repo rate (around 1.33 per cent) reflects that market has priced in less than a 50 bps rate cut, while it remains concerned overachieving its fiscal deficit target of 3.3 per cent of the GDP. The consecutive reduction of the repo to boost growth and revive liquidity and credit support in the economy has eroded the interest-rate advantage the rupee has over the dollar, denting its attractiveness as a high yielder. The foreign investors’ participation in Indian debt started falling since September.

Meanwhile, the government’s announcement over a corporate tax cut is expected to boost corporate profits, making India a competitive manufacturing hub along with positive news from the Trump administration that led to bouts of optimism over trade negotiations and attracted stable portfolio flows in equities.

Despite a seesaw movement in 2019, the long-term outlook for Indian rupee remains foggy as global headwinds, poor growth conditions and fiscal risks may keep weighing on rupee in 2020. Globally, the market is looking for a ‘Phase-One’ trade deal before the end of 2019. However, looking forward we expect phase two and phase three to be increasingly difficult and that rupee may depreciate towards 74+ levels. Technically, we expect the USD/INR to fall towards 69.50 in the medium term and bounce towards 72 and then 74 levels in the long term.