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RBI has done a fabulous job in managing the Rupee

Monday, September 11, 2017
By Anindya Banerjee

Anindya Banerjee
Dy. VP, Currency & Interest Rates, Kotak Securities

The long dollar trade around the globe underwent some interesting twist and turns over the past 12 months. A Trump elevation as President, caused momentary panic in the FX market, as the King Dollar dropped fast, due to possible political risk. However, the narrative changed swiftly as focus was a Republican President with majority in Congress and Senate would drive the deficit higher, causing inflation and growth to pick up steam. Long bond yields in surged in US, along with surge in stocks and so did the US Dollar. Nothing much changed on ground, not even the Trump rhetoric, which remained highly critical of opponents and high on promises. Long Dollar train became just too overcrowded and then came the train wreck.

Since February of this year, Dollar has depreciated between 5%-20%, against major currencies around the world. It has become 8 straight months of dollar decline. We were lucky to change our view early, from a bull on Greenback to being a bear, in the month of February. We focused on Trump politics as a major reason why that can happen. Since, then not much has been achieved by the Trump administration on any of the promised fronts: tax, healthcare, infrastructure and trade. Over the same time, the global policy theme too underwent a significant change, one from monetary policy divergence to monetary policy convergence.

In the regime of monetary policy divergence, US central bank was the only major central bank, pursuing tightening of monetary policies, with other major central banks, still on the path of easing. It became a vicious cycle, as strong USD and weak commodities and turbulent stock markets, pulled down global growth and made other central banks even more committed on the path of easing, as they feared deflation and recession. Three good years, the trade worked well. During that same time, period, Rupee started to come out of its multi-year bear run, as sound policies were being put in place by Government and RBI. Not many participants noticed, that Rupee had become one of the strongest currencies after US Dollar during 2014-2016.

India's GDP growth has slowed to lowest levels since 2015. It is not just GDP, leading and co-incident economic indicators had all indicated a slowdown in economic activity. Though the slowdown in concerning but it is not unexpected. Indian government, laudably remains committed on a path of:

1) Greater transparency in business and commerce (2) Higher probity in public service.
It has implemented several measures to reduce corruption and eradicate unaccounted income and wealth. They have been taking the steps since coming to power in 2014. Back then we highlighted the fact that such steps are much needed but will extract a medium term economic cost. The informal sector and the corrupt sectors of the economy are the hardest hit. However, it is necessary to contain the malice of ‘black’ money and corruption.

We are not in the camp that believes there is a structural downturn in the economy. We expect consumption to rebound. Multi-pronged attack on NPA mess would help revive investment. Though private investments are expected to remain muted but they will continue to show a gradual pick-up in coming quarters as business community adjusts to a post GST and post demonetized world. A strong global growth will continue to boost exports and RBI remains committed to keep CAD at a check, which means drag on GDP from external sector will remain low in the coming quarters. We expect government spending growth to hold up. All in all, we can see GDP growth rebound strongly by over 300 bps on a nominal basis.

With growth expected to rebound and inflation remaining benign, we see little danger to the macro outlook of Rupee. Remember the R-G-P framework to analyse the internal dynamics of a nation’s currency. R-G-P framework stands for outlook on relative real rates, growth and politics.  

RBI having committed its monetary policy to positive and high real rates have faced a lot of criticism from the certain section of the intelligentsia. Though the debate on real rates would continue. However, we believe RBI has been unfairly and erroneously criticized for their FX policy. RBI has done a fabulous job of keeping the Rupee from appreciating like other EM and DM currencies have done against USD. Rupee has not only unperformed 65% of its EM peers but also lost ground against 9 of the 11 currencies in the developed world. Relentless demand for reserves from RBI has ensured Rupee remains an underperformer.

We hope, policymakers continue to pursue the sound monetary and fiscal policies as they are doing now. Hence, we remain bullish on Rupee for the medium to long term. Though corrective phases in stock markets can trigger temporary devaluations in the Rupee for example say towards 64.50 or 65.00 but we would advise exporters and carry traders to utilise such devaluation phases to go long the Rupee as over the long term we can see the Rupee trading below 60.00.

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