Rupee weakens as FIIs pull out

The rupee fell on Tuesday against the dollar as foreign institutional investors pulled out from the equity market, prompting the Reserve Bank of India (RBI) to intervene and arrest the pace of the slide.

The currency had gained yesterday, after the government deferred a controversial tax rule for foreign investors. The euphoria, on both the equity and foreign exchange markets, was short-lived. Also, developments in the euro zone had a negative impact on the domestic markets.

“There was a strong sell-off in the market, as there has been uncertainty on formation of new governments (and the resulting impact) on the European economy,” said India Forex Advisors, in a note. Voters in France and Greece had voted out their governments, indicating they were against ongoing austerity measures.

Central bank intervention would provide only tentative relief, the consultancy firm added. “The rupee is still fundamentally weak, though the postponement of GAAR (the government’s proposed General Anti-Avoidance Rule for taxes, now deferred by a year) had brought cheer to foreign investors,” said a treasury official of a large public sector bank.

On Tuesday, the rupee fell 0.4 per cent against the dollar to 53.12, weakening from yesterday’s close of 52.90. Foreign investors sold Rs 400 crore (net) from the equity market on Tuesday. According to dealers, some banks sold dollars on behalf of RBI, to arrest the sharp decline caused by outflows from the equity market.

RBI deputy governor Subir Gokarn said a widening current account deficit and negative balance of payments are worries for the central bank. These could limit its ability to defend the local currency. “The ultimate determinant of what the exchange rate is going to be is going to be how much capital comes in, in a way that finances the current account deficit and also the extent to which we reduce the current account deficit because that’s really the fundamental driver of the currency,” Gokarn said while addressing industry members in Hyderabad on Tuesday.

After a hands-off approach for nine months, RBI sold $20 billion between September and February in the spot market, the latest data showed. A depreciating rupee will also put pressure on inflation, as the country imports 80 per cent of its crude oil requirement.

Experts said RBI’s capacity to intervene was also limited in view of the country’s depleting foreign exchange reserves. Since January 1, these have depleted by $1.4 bn, the latest data released by RBI show.