Is the 80 to a dollar a new normal for the rupee? How this impacts economy and markets

Rupee's precarious health is the hottest topic now. The domestic unit is near its all-time low, as it ended at 79.99 on July 20.

This year so far, the currency has fallen more than 7% - from the level of 74.45 on December 31, 2021, to 79.99, on July 20, 2022.

The rupee's weakness can be primarily attributed to the sustained capital outflow by the foreign portfolio investors (FPIs), soaring inflation led by the Ukraine war and rate hikes by the US Fed. Elevated crude oil prices are also a major factor behind the rupee's dwindling strength.

"The rupee has depreciated to record lows amid tightening monetary conditions and risk-off sentiments as well as persistent outflows witnessed from the domestic markets. Significant dollar demand from oil importers amid elevated crude oil prices as well as concerns about swelling trade deficit have also been the key catalysts behind the steep descent seen in the Indian currency, wherein it has breached past the pivotal 80 mark," Sugandha Sachdeva, Vice President - Commodity and Currency Research, Religare Broking observed.

Down against dollar, up against euro, pound

Despite the efforts made by the Reserve Bank of India (RBI), the rupee has been on a downward trajectory against the dollar for the last few months.

However, data show that while the rupee has fallen this year against the dollar, it has actually gained against the euro and pond. The rupee is nearly 4% up against the euro this year while against the British pound, the rupee has gained about 5% this year.

"Despite the recent depreciation of rupee versus the dollar, the Indian currency has been one of the most stable as even the hard currencies such as euro, yen and pound sterling have depreciated far more than rupee versus the dollar over the last 12 months," Sujan Hajra, Chief Economist and Executive Director, Anand Rathi Shares & Stock Brokers, pointed out.

"There are a certain balance of payment concerns for India including high oil imports, jump in the trade deficit, outflow of foreign portfolio investment and almost $60 billion reduction in foreign exchange reserves from the peak, the depreciation of rupees should be seen more as dollar strength rather than rupee weakness. In fact, proactive foreign exchange management by the RBI has averted greater currency volatility as witnessed by many other peers," Hajra added.

Is 80 the new normal?

It is possible that the rupee remain near the 80 per dollar mark in the near term, considering the fluctuating crude oil prices and the rate hikes by the US Fed.

Eventually, the level of the rupee will be decided by events such as the rate hikes by major central banks and crude oil prices.

Analysts are of the view that the domestic currency will remain weak in the near term as the rate hikes are likely to continue. However, as the signs of FPIs returning to the Indian market are emerging and as the dollar has cooled off slightly, the rupee's fall may be capped.

“We do see some more pain for the domestic currency in the near term, but it is likely to remain cushioned by the 81 mark amid a host of factors. For one, the strength in the dollar index seems unsustainable at higher levels, with expectations that the European Central Bank and other developed market central banks will also hike interest rates aggressively," said Sachdeva.

Sachdeva underscored the recent fall in the dollar.

"The long-term inflation expectations have fallen in the US, and concerns of super-sized tightening by the US Fed at the forthcoming meeting have eased, which is leading to a retreat in the dollar index from multi-year highs and aiding the local unit. Besides, the US central bank might be forced to pause its rate hike cycle going forward given the concerns about recessionary risks and it seems that the worst is likely to be over soon," said Sachdeva.

Other than the global factor, the RBI and the government have recently taken several measures which might stem the fall in the rupee.

Sachdeva expects the rupee-dollar exchange rate to hover in the range of 78.50 to 81 till September.

Viraj Vyas, Technical and Derivatives Analyst, Ashika Group, believes there is a high chance that the rupee trades in a range of 78-82 given the fact that rate hikes in the US have become a new normal.

Jigar Trivedi, Research Analyst- Commodities & Currencies Fundamental, Anand Rathi Shares & Stock Brokers, expects the rupee spot to depreciate towards 80/81 levels by the year-end as twin deficits add to pressure on the emerging market currency.

"The Fed is expected to hike rates by 75 bps in the July meeting, while the RBI meeting is not due until August, which could narrow the yield differentials between India and US, and might further weigh down on the rupee. 78 looks new normal as the rupee can be seen between 78-82 for the next two-three months. The dollar index has shown correction from 109$ to 106.50 in the span of a week which will hold rupee’s drop," Trivedi pointed out.

On the technical front, if the USD/INR Spot manages to stay below 79.90, it can go further lower towards 79.80 level, believes Heena Naik, Research Analyst - Currency, Angel One.

If it breaks 80 level and manages to sustain above it, we may witness 80.15-80.20 level, she added.

"Overall, the likely range that the rupee will dwindle is 79.80 – 80.20 level which can be called the new normal range. The trend is likely going to be sideways to up in USD/INR Spot as external factors are gloomy just like the domestic ones and recovery is not likely to be seen soon," said Naik.

Hitesh Jain, Senior Vice President – Institutional Research, YES SECURITIES believes in terms of the rupee outlook for the rest of this calendar year, the worst is priced in the currency, with the value likely to be peaking around 80.5-81 against the greenback.

"We say this because there is a growing indication that inflation across the globe has peaked given the wide retreat in food prices, oil and other industrial commodities. Stress in the global supply chain is also reported to have eased, while global aggregate demand is slowing, manifested by a downgrade in global economic forecasts," said Jain.

Jain underscored that the markets are tapering the expectations on the quantum of Fed rate hikes, which can be characterised by a retracement in US 10-year yields to 2.9% from the peak of 3.4%. The buoyancy in the dollar index seems to be petering out, wherein the euro is now seeing a strong reversal from the parity.

Jain highlighted that on India’s foreign capital portfolio flows as well, July trends show FII outflows from the Equity markets have slowed during the first fortnight, while Indian markets have managed to fetch some gains during the last 30 days, even when pain persists in global equities. Perhaps a change in trend indicates FIIs are having a change of heart for India.

"All these factors allude to lesser downward pressure on the rupee, with the USD/INR due for some mean reversion or possibly a consolidation around the 79 mark,” said Jain.

The impact on markets, economy

Rupee's health has a close relationship with the economy and the market and has both negative and positive impacts.

First of all, on the macroeconomic front, the rupee's weakness elevates inflation and also increases the cost of borrowing. The decline in the rupee increases the fiscal burden of the government and even the corporates.

A weak rupee is good for exports and industries like textiles, pharmaceuticals, information technology and several others involved in exports gain due to the decline in rupee value. On the flip side, the rupee's weakness is negative for importers and it negatively impacts heavy import companies like petroleum, engineering goods, consumer and other importing companies.

Vyas of Ashika Group explained a weaker rupee will make India’s exports more competitive, but it will increase CAD and make it difficult for companies to refinance their foreign currency debt. 

However, if you look at the state of our economy, pair that with the robustness of the banking sector and its balance sheet and a very proactive RBI, we are less likely to see any major swings or volatility in the USD/INR pair," said Vyas.

Shrikant Chouhan, Head of Equity Research (Retail), Kotak Securities said oil marketing companies like HPCL, BPCL, IOC, and Oil India, which import crude oil, can face challenges due to the rupee's weakness as price control prevents them from increasing prices in the domestic market," said

"Pharmaceutical companies benefit as they are the big exporters (India's pharma sector exported drugs worth ₹1.8 trillion in 2021). Though pharma companies also import substantial raw materials. Hence, the impact of rupee depreciation is likely to be largely neutral for the Indian pharmaceutical sector," Chouhan said.

"IT companies like Infosys, TCS, Wipro, HCL Tech and Tech Mahindra are the biggest gainers as they bill most clients in US dollars. The US contribute about 50-60% of revenue. IT companies earnings rise as the Indian currency falls," said Chouhan.

Textile companies benefit given the significant exports and most input costs are locally sourced while aviation companies like Interglobe Aviation are negatively impacted as 60% of costs are in dollar terms," Chouhan added.

Disclaimer: The views and recommendations made above are those of individual analysts or broking firms and not of MintGenie.