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India feels the heat as investors face brutal emerging markets selloff

The government raised import taxes on gold, while increasing levies on exports of gasoline and diesel in an attempt to control a fast-widening current account gap.

Topics
Emerging markets | Indian Economy | Rupee

Ronojoy Mazumdar & Swansy Afonso | Bloomberg 

Photo: Bloomberg
Photo: Bloomberg

Investors reeling from the brutal selloff over the past six months again fled the as India’s currency hit new lows, prompting the government to curb imports and oil exports to arrest a widening deficit.

The government raised import taxes on gold, while increasing levies on exports of and diesel in an attempt to control a fast-widening current account gap. The moves sent Reliance Industries Ltd. and other energy exporters tumbling, bringing down the benchmark index by as much as 1.7%. The fell again.

The actions underscore how emerging economies, specially with twin current account and fiscal deficits, are increasingly facing pressures on their currencies as forceful rate hikes by the Federal Reserve accentuate outflows. Despite having the world’s fourth-biggest reserve pile, the has hit a succession of record lows in recent weeks. The Indonesian rupiah, the other high-yielder in Asia, fell to its lowest in two years on Friday.

Policy makers in many face stark choices as they battle soaring inflation and capital flight as the Fed tightens policy: raise rates and risk hurting growth, spend reserves that took years to build to defend currencies, or simply step away and let the market run its course.

New Delhi’s move also underscores the economic challenges faced by Prime Minister Narendra Modi’s government as inflation in the world’s sixth-largest economy accelerates and external finances worsen. The central bank has been battling to slow the currency’s decline, and runaway rupee depreciation will worsen price pressures, and may spur more rate hikes that weigh on growth.

The measures “aim to reduce the impending pressure on the current account deficit and thus the currency,” said Madhavi Arora, lead economist at Emkay Global Financial Services. “Complementary policy efforts from both fiscal and monetary side essentially reflects the looming pain on the balance of payments deficit this year.”

While the Reserve Bank of India has been seeking to smooth out the rupee’s 6% decline this year, banks have reported dollar shortages as investors and companies rushed to swap the rupee for other assets or to pay for imports. The latest measures were spurred by a sudden surge of imports in May and June, the Finance Ministry said Friday.

Chart

Commodity Pressures

The government raised the import duty on to 12.5%, reversing a cut last year. The higher taxes on shipments of and diesel sent shares of Reliance Industries, a key exporter, down by as much as 8.9%.

India is the world’s second-biggest gold consumer and local futures rose as much as 3% in Mumbai, the biggest intraday jump in almost four months, due to the higher import costs.

Finance Minister Nirmala Sitharaman said on Friday that India is seeking to discourage gold imports as it helps preserve foreign exchange. She added “extraordinary times” require such measures including the imposition of a windfall tax on fuel exports.

“The challenges are emanating from the same source, which is higher commodity prices,” said Rahul Bajoria, senior economist, Barclays Bank Plc. “India can neither find supply onshore nor we will be able to cut back the consumption of oil. That makes the whole situation a lot more unpredictable both in terms of how this plays out and how long this continues for.”

For the broader fuel market, a drop in Indian exports could further tighten global markets that are grappling with reduced supply from Russia and rising post-pandemic demand.

Big Reserves

Friday’s measures highlight the central bank has a tough fight on the external front in coming months. RBI Governor Shaktikanta Das has said the central bank uses a multi-pronged intervention approach to minimize actual outflows of dollars and won’t allow a runaway rupee depreciation.

And while investors have been put on watch over emerging-market stress by Sri Lanka’s struggle with a dollar crunch leading to hyperinflation, the RBI has close to $600 billion of foreign-exchange reserves. But those reserves are depleting as the central bank steps up its fight to stop the slide in the rupee amid capital outflows and a current account gap that is expected to double this year.

“Investors should expect the currency to still depreciate,” said Arvind Chari, chief investment officer at Quant Advisors Pvt. in Mumbai. “Will more taxes on exports impact corporate activity? Maybe not in the short term but it could in the medium to long term.”

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First Published: Fri, July 01 2022. 17:59 IST
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