The Euro is down over 3.5% against the US Dollar (USD) and is looking to go down further of the back of debt woes in the Eurozone. The Indian Rupee (INR) is down over 4.5% against the USD since the 1st of August and there are worries that the INR will depreciate further. The Euro depreciation is on the cards but will the INR follow the Euro or will it break away to trade on its own fundamentals?
The INR is weakening on sentiments rather than fundamentals. India is not facing a sovereign debt problem as the Euro is facing while the country is expected grow at 7.5% to 8% levels this year against Eurozone expectations of low or even negative growth. India’s policy rates at 8% on the Repo is far higher than the US policy rate of 0%-0.25% and the rate differential is wide enough to attract flows into Indian debt. The debt limits of USD 25 billion is fully utilized by FII’s while the infra debt limit of USD 25billion is unutilized due to issues on holding period, tenor etc. The government is addressing this issue and any tweaking of the investment regulations on infra debt will see good flows coming into the market. If the RBI can convince the markets it has done enough to contain inflation, which is trending at 9.22% levels, the INR will see a good amount of strength.
India’s current account deficit (CAD) is not a worry as of now. The CAD, which was forecast to go up over 3% of GDP last year ended the year at 2.6% of GDP. The April-August 2011 export growth is up by 54.2% over last year while imports have growth by 40.4%. The trade balance has grown by close to 15%. Portfolio flows have been positive calendar year to date with FII net purchase of equity and debt at USD 4.5 billion. The external situation is looking reasonably healthy and the outlook for CAD is not highly negative.
A positive tone on inflation by the RBI in the policy review on the 16th of September 2011 can help the INR take back some losses.