India’s monetary authorities are not inclined to use interest-rate hikes as their primary response to the rupee’s recent weakness, according to three people familiar with the Reserve Bank of India’s (RBI) internal discussions. The sources said the central bank believes measures other than changing policy rates are better suited to stabilise the currency, and that inflation - rather than the exchange rate - remains the main guide for decisions on borrowing costs.
Those close to the RBI told Reuters earlier that officials are still considering a range of options, including a dollar deposit scheme aimed at non-resident Indians and tax adjustments for debt investors. "All options remain on the table and are under consideration in coordination with the government," one of the sources said.
On the immediate question of rate moves, a participant in the discussions said: "There doesn’t seem to be an urgent need for the central bank to jump into rate hikes." That stance contrasts with market expectations for monetary tightening even as the rupee continues to weaken following an energy-price shock linked to the Iran conflict.
Officials are wary that raising interest rates principally to support the currency would do little to halt depreciation, while also carrying the risk of further slowing growth in Asia’s third-largest economy. Two other Asian central banks - in Indonesia and the Philippines - have moved to raise rates as those countries confront rising inflation and currency depreciation risks; India’s policymakers appear reluctant to follow that route, given the country’s current inflation trajectory.
The rupee has fallen nearly 6% since the Iran conflict began late in February and hit a record low of about 96.96 per dollar on Thursday. At the same time, interest-rate swap markets have priced in at least 40 basis points of rate hikes by the RBI over the next three months and more than 100 basis points over the next year, reflecting market bets on upcoming tightening.
Another source cautioned that a meaningful defence of the currency would require steep rate increases, and that smaller, incremental moves would probably have little impact on the rupee while also curbing domestic demand. The RBI has a precedent of avoiding interest-rate adjustments as its primary currency defence tool, with the notable exception of a brief rise in the marginal standing facility rate in 2013.
Officials continue to assess a suite of measures to steady the currency, though one source emphasised that not every option under discussion will necessarily be implemented. The central bank did not respond to an emailed request for comment. All of the people who spoke described their remarks on condition of anonymity because of the sensitivity of the subject.
Growth and inflation considerations
Reviewing domestic growth and price dynamics is central to the RBI’s approach. One of the sources said the central bank’s April forecast of 6.9% economic growth for the current financial year is likely to be revised downward.
At the same time, the combination of higher oil prices and a weaker rupee is expected to push inflation pressures back up, potentially resulting in consumer-price inflation overshooting the RBI’s April projection of 4.6% for the year. A second source said headline consumer-price index (CPI) inflation is now trending toward about 5% or slightly higher - a level that remains within the RBI’s tolerance range of 2-6% but is above its 4% target.
In April, CPI inflation was at 3.48%. Wholesale inflation, which has a larger weighting for oil in its basket, surged to 8.3% last month. The heavier oil weighting in the wholesale series and a limited pass-through to consumer prices have so far softened the impact on households, but policymakers are monitoring how quickly cost pressures translate into core and headline CPI readings.
Policy timeline and market consultations
The RBI’s rate-setting committee is scheduled to announce its next decision on June 5. The central bank held consultations with economists on Thursday as part of its routine information-gathering. Two participants in those private consultations said Governor Sanjay Malhotra posed the question of whether policy lags might justify a pre-emptive rate increase.
Most economists consulted do not expect a rate hike in June. However, some forecasters, including a number of market participants, are banking on tightening in the months ahead.
The RBI is balancing the need to contain inflation with concerns about growth, and currently appears to prefer policy tools other than rate hikes to address the rupee’s weakness. The coming weeks of data on inflation pass-through and the central bank’s internal reassessment of growth prospects are likely to shape whether the bank deploys the non-rate measures under consideration or shifts toward conventional rate responses.