Nervousness in rupee to rise as election approach
he New Year saw the temporary resolution of the longest US government shutdown in history- movement forward on the Sino-us trade talks, a dovish slant to Federal Reserve communication and a yet unresolved Brexit issue.
The US dollar index stayed under 97 as the US Fed Reserve issued a modest downgrade to growth and characterised inflation as muted. It promised data dependence, patience on further interestrate adjustments and flexibility in balance sheet normalisation. This dovish slant reduced the markets’ probability of further rate hikes in 2019 to negligible levels. The Sino-us trade talks progressed satisfactorily while the US government was reopened temporarily till February 15, for further negotiations on border security.
The Euro’s unsustained surge to U$1.15 was due to the initial US dollar weakness. European Central Bank (ECB) governor Mario Draghi’s weakening growth assessment and a global protectionism threat was confirmed by weak manufacturing data and European Commission 2019 growth downgrade. Draghi’s indication to continue the significant amount of monetary policy stimulus pulled the Euro back toward U$1.13.
The UK Prime Minister Theresa May lost the vote on the Brexit withdrawal bill resoundingly but narrowly survived the “vote of no-confidence” tabled by the opposition Labour party, helping the pound scale U$1.32. While voting on “Plan B”, the UK Parliament instructed PM May to renegotiate the exit treaty, which the EU reiterated it would not change. The pound dipped below U$1.30 as it also rejected a plan to legislate a delay to Brexit, even if PM May failed to secure concessions from Brussels, making a delay in the March 29 deadline a distinct possibility.
From an early January low of 69.23/$, the Indian rupee depreciated linearly to 71.83/$, on firm oil prices, rumoured dollar purchases for defence purposes and a populist election year Interim Budget.
The Budget had new farmer support schemes, a pension scheme for unorganised labour, income tax relief for individuals and support for the housing sector. These sops expanded the fiscal deficit target to 3.4%, causing bond yields to harden. Later, the Reserve Bank of India (RBI) unexpectedly cut the repo rate by 25bp to 6.25% and changed its policy stance to neutral. Its forecast of slower GDP growth and lower inflation has raised the market’s expectations of another 25bp cut in April.
The rupee is expected to trade the 70.50-72.00/U$ range over the next few weeks, shadowing global risk appetite, oil prices and bond yields. Nervousness will rise as we near the general elections in May with the RBI seeking to temper any two-way volatility.
The writer is presidentgroup treasury and retail broking, Kotak Mahindra Bank