Ind-Ra: Expect Stability in Rupee during the Remainder of FY16

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India Ratings and Research (Ind-Ra) expects the Indian rupee (INR) to remain largely stable in the remainder of FY16. The key reasons for the expecting stability in INR are i) the better macroeconomic fundamentals of the Indian economy among the emerging economies, ii) comfortable balance of payment situation, iii) postponement of policy normalisation by US Fed to December 2015 or may be to 2016 and iv) healthy capital inflow.

Ind-Ra expects INR to trade in the range of INR64.50-INR66.25 against the US dollar (USD). However, the readjustments carried out by foreign institutional investors in their portfolios towards the year end/beginning of 2016 may cause some short-term volatility in INR.

The decision of Central Bank of China to allow the yuan to depreciate by 3.4% over the two consecutive days 11 and 12 August 2015 rattled the emerging market currencies in August 2015. However, despite witnessing some volatility and depreciation, INR remained one of the most stable emerging market currencies. It had depreciated 3.11% till end-September 2015 (65.74 on 30 September 2015), but recovered to 64.78 by 9 October 2015.

The sudden and hefty depreciation (August 2015) in INR against USD drew parallel with the mid-2013 INR depreciation, when the mere mention of tapering by the US Fed had sent INR in to a tailspin. Ind-Ra however believes it were the better macroeconomic fundamentals in August 2015 that saved the day for INR. As a result, unlike the 2013 episode, no extraordinary policy interventions were required and INR soon found its level based on market dynamics and the Reserve Bank of India's intervention remained confined to check the excess volatility.

As the Chinese devaluation of yuan led to the devaluation of several emerging market currencies, it has opened a debate on the likelihood of a currency war. It is clear that the August 2015 devaluation of yuan is a Chinese policy response to the slowing growth in China; however, it is still not clear whether China will carry out more such devaluation or not. So long as the exports of emerging market economies are not impacted by the Chinese devaluation and their currencies find lower levels with respect to USD to wipe out the gains of the yuan, an open currency war looks unlikely.

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