The Reserve Bank of India accepts that it is fighting a losing battle in trying to stem a fall in the rupee, a slide that has mirrored the slump in the once high-flying emerging market.
The force of dollar demand is such that the Reserve Bank of India can do little to check the fall, central bank officials say.
"We may prop the rupee for sometime by this way or that, but it is not enough," said a senior RBI official directly involved in currency management.
The RBI spent more than $20 billion in spot-market intervention between September and March and has stepped into markets since, including on Tuesday. It has carried out several other measures to try to check the fall in the currency, which hit a record closing low on Monday of almost 54 per dollar.
Portfolio investors are fleeing -- scared away by a slowdown in economic growth and large current account and fiscal deficits, stalled policymaking and a controversial proposal to tax foreign investment.
RBI officials acknowledge that in the absence of government policy reforms to address its deficits and encourage investment, the rupee will keep falling.
The RBI's attitude to the rupee is important because it can provide foreign exchange dealers with an indication of how much room they have to keep selling the currency.
The rupee has shed 9% since March, the biggest fall among major Asian currencies monitored daily by Reuters, and traders are still building short positions, betting that it will fall to a record low of 56 per dollar this year.
"The rupee will fall gradually this year; it is not that it will fall suddenly. The RBI will be propping it, but the fundamental issues have to be addressed," said the RBI official.
India's economic growth has dropped in the past four years to close to 7% from almost 10%. Government spending has raised doubts about the country's investment grade status and position in the BRICS grouping of Brazil, Russia, India, China and South Africa.
The RBI does not set a target level for the rupee but it intervenes in the market to ease volatility. Central bank insiders say it c a n be reactive at best when it comes to managing the rupee's level.
"The RBI cannot manage the exchange rate, manage the external situation and liquidity at the same time. It is what you call the phenomenon of 'impossible trinity.' The RBI's intervention is a temporary reprieve," a second senior official involved in exchange rate policy said.
Neither official wanted to be identified because they are not authorised to speak to the media.
Minutes of the RBI's April annual policy meeting, released late on Monday, show most external members of its rate-setting committee suggested the central bank should allow the rupee to depreciate. India's weak economic fundamentals argue for a lower rupee, they said.
"Our policy should be more proactive in managing current account deficit (CAD) risks. In this context, some members felt that the reliance on short-term and debt-creating flows be avoided to finance the CAD," the minutes show, reflecting the views of the external members.
Selling dollars, setting rules
Still, the RBI may be more bearish about the rupee than many in the financial markets. A Reuters poll on Tuesday showed that analysts think the currency is close to a bottom.
The RBI sources said the central bank had no intention of stepping aside even if it thinks the currency will continue to fall. Policymakers will continue to mix administrative steps with intervention, they said.
Since September, the RBI has continuously sold dollars in the spot and forward markets to provide support to the rupee, doing so again on Tuesday after the currency fell through the symbolically significant 54 level, traders said.
On Friday, the RBI asked exporters to sell half the foreign currency in their accounts and made it easier for the market to absorb large foreign exchange transactions by relaxing intraday trading limits.
"These measures have come six months too late," said the second source.
Shrinking foreign exchange reserves limit the RBI's ability to intervene and a hefty import bill dampens the impact of the intervention.
From September to March, the RBI sold $20.69 billion in the spot market to check the decline in the rupee, which hit an all-time low of 54.30 in December. India's foreign exchange reserve fell to $293.2 billion as of May 4 from $309.5 billion a year earlier.
Net dollar inflows were more than $7 billion in February before falling to $387 million in March and swinging in April to a net outflow of $926.8 million.
India's balance of payments slipped into the red for the first time in three years in the December quarter, and the current account deficit has been swelling since April 2011 with imports rising faster than exports.
"We don't have very big foreign reserves. We can't keep supplying dollars to the market," the first official said.