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The rupee is likely to be a joker in the pack in the Reserve Bank of India’s mid-quarter monetary policy review announcement on Monday.
If the RBI focuses on the upside risk to inflation from the eight per cent depreciation of the rupee against the US dollar, then it might hold off on cutting repo rate on Monday.
The central bank may maintain status quo on policy rates in order to assess the exchange rate trajectory and the pass through to prices in a sluggish economy.
A sustained one per cent depreciation in the rupee causes WPI inflation to rise by 15-20 basis points, recent calculations done by Standard Chartered Bank showed.
With the US Federal Open Markets Committee meeting likely to take place immediately after the RBI meeting, the exchange rate trajectory could be altered after the crucial June 19 US Federal Reserve meeting.
So the main issue is whether the RBI will be swayed by the recent softening in WPI inflation or take a cautious approach given the battering that the local currency had against the US dollar in the past week.
Many economists, including those in Standard Chartered Bank, believe the current growth-inflation dynamics support a call for a 25 basis point cut on Monday.
Standard Chartered Bank expects a 25 basis point cut in repo rate on Monday. It will be a final cut of this cycle, although it is a close call, says a research note put out by the bank ahead of the RBI policy review.
Even if RBI cuts by 25 basis points, its forward guidance is likely to negate hopes of further rate cuts.
The rupee volatility has added to the complexity of the RBI decision on policy rate cut.
Finance Minister P. Chidambaram’s comments that rupee had to find its own level and that no specific measures were likely from the Government side added to the local currency’s weakness.
But for some helpful positive announcements from Fitch and also intervention by the RBI in the forex market, the rupee would have hit the psychologically crucial 60-mark, say forex market observers.
The Finance Ministry’s efforts this past week to talk up the rupee did not yield any tangible results.
So where will the rupee be against the US dollar? Will the RBI continue to intervene to strengthen the local currency? These are difficult questions to answer. But much would depend on the June 19 meeting of the FOMC.
Any indication from the US Fed that there would be tapering of asset purchases by them in the coming days will spell trouble for the local currency.
Although rupee is likely to experience renewed downside pressure, any sell-off is likely to be limited ahead of the June 19 FOMC meeting.
But prediction is a tough business these days. Both Finance Ministry and weathermen will vouch for this given what has happened to rupee and the monsoon developments this past week.
Nobody anticipated that rupee will fall sharply against the US dollar or that Monsoon will arrive ahead of its normal time.
Interesting and volatile times are before us. Good luck to money managers.
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