Where is the rupee headed post swap window closure?

Fear of tapering and rise in interest rates due to high inflation may mean more volatility

One of the primary reason for a stability in the equity markets has been a stable rupee which has recovered nearly 10 per cent of lost ground, thanks mainly to the steps taken by RBI Governor, Raghuram Rajan to increase inflow of dollar. Rajan had announced two time bound swap deals along with a series of other measures which have resulted in rupee stabilizing around 60-62 mark against the dollar.

However, the swap window available for bringing in dollar has now closed (November end), yet the rupee is holding on. Rupee's strength in laudable as oil marketing companies are back again in the currency market for buying dollar to purchase oil. Banks have been able to garner $34 billion through the swap window, thus shoring up the foreign exchange reserve of the country. As per a Yes Bank report titled 'Life after Swap Windows' dollar inflow would result in forex reserves improving by $18-19 billion while the country has gained another month of import cover.

Rupee also benefited from supportive economic numbers, especially current account deficit which fell to 1.2 per cent largely on account of lower gold imports.

Since the start of the current month, after closure of the swap window, rupee has benefited from a surge of FII money coming in for the PowerGrid IPO, which has been very attractively priced. Investment sentiment has momentarily also improved with chances of a business friendly government winning the state elections.  

But with all positives on the table where is the rupee headed as it once again enters turbulent territory.

World markets are jittery over when tapering by US Federal Reserve will start as well as the quantum of the taper. Tail winds in the forms of poor economic fundamentals and high inflation will add pressure on the rupee. Recent data points show a slowing of consumer demand in rural India (government and many economists were hoping for a pick-up in rural demand post a good harvest) and a decade low diesel consumption points at a slowing growth. RBI might be tempted to raise interest rates as inflation continues to remain high, this might have a negative effect on the rupee.

An indication of which way the rupee is headed can be seen from the movement in mid November 2013. Rupee started to slip and touched a low of 63.84 on November 12, 2013 slipping from 61.61 just a week before. However, there was a sharp recovery in the rupee after banks rushed in $11 billion in the last fortnight of November as the swap window was closing.

Will the war-chest built up by the central bank be enough to stall a further fall in the rupee. This war chest will decide the future direction of the currency and equity markets. Prasanna Ananthasubramanian, economist ICICI Securities Primary Dealership has been quoted by Bloomberg as saying that the movement of rupee is no longer about current account deficit (read economic fundamentals) but about capital flows. It is a function of how global market behaves, he says.

Does that not mean we are back to square one in the same position where we were in May 2013 as well as in August 2013. Time to embrace volatility.