RBI taking steps to support rupee, says FM Sitharaman; what the central bank is doing

NEW DELHI: Finance minister Nirmala Sitharaman on Tuesday addressed rupee's depreciation over the recent months saying that the fall has been significant and much of it is driven by global challenges. The FM added that the Reserve Bank of India (RBI) is taking steps to stabilise rupee and curb volatility.Back in May, the currency tumbled to its record low of 96.96 per dollar but rebounded in recent weeks.Earlier in the session, rupee strengthened by 82 paise to 94.96 per dollar on the interbank order matching system on Tuesday, gaining nearly 0.7% from its previous close.The gains come after RBI introduced a series of measures aimed at curbing dollar demand.These include restrictions on cancelling and rebooking foreign exchange derivative contracts, tighter documentation requirements for currency transactions, a 20% foreign exchange risk reserve for specified transactions and a special dollar window for public sector oil marketing companies.Here’s what the apex bank is doing: 1. Restricted cancellation and rebooking of forex contractsThe RBI has restricted the cancellation and rebooking of foreign exchange derivative contracts involving rupee. The move is expected to reduce market activity by preventing repeated cancellations and rebookings that can add to transaction volumes."With the new measures, RBI has made it more expensive for importers to hedge. Also, the volume in the market should see a decline given cancellation and rebooking of contracts are not going to take place," the ICICI Bank report said.2. Cut the limit for transactions without documentationThe central bank has reduced the threshold for foreign exchange derivative transactions that can be undertaken without establishing the underlying exposure to $5 million from $100 million.The move aims to tighten oversight of currency transactions and curb dollar demand driven by expectations of further rupee depreciation rather than genuine business requirements.3. Tightened documentation to prevent multiple hedgesThe RBI has introduced additional documentation requirements to ensure that the same exposure is not hedged multiple times.The measure comes as importers continue to seek protection against rupee depreciation, while exporters have remained on the sidelines rather than selling dollars. According to ICICI Bank, this imbalance has added to demand for the US currency, while forward premia have increased over recent months.4. Introduced a 20% foreign exchange risk reserveThe RBI has introduced a foreign exchange risk reserve requirement of 20% for specified import-related current account derivative transactions exceeding $2 million.The measure is expected to affect liquidity conditions alongside the central bank's decision to increase the daily cash reserve balance requirement from 90% to 99% of the prescribed cash reserve ratio requirement.According to the ICICI Bank report, the two measures would sterilise around 0.4-0.6% of net demand and time liabilities (NDTL). The report also said the measures had pushed bond yields higher.5. Opened a special dollar window for oil marketing companiesThe RBI has provided a special window for public sector oil marketing companies to meet their dollar requirements. The arrangement takes their dollar demand out of the regular foreign exchange market in the immediate term.However, ICICI Bank cautioned that sustained currency stability would depend on broader external conditions, particularly capital flows and crude oil prices.How could RBI's measures affect rupee?The measures seek to address the imbalance between importers' demand for dollar hedging and exporters' willingness to sell dollars. Higher hedging costs and restrictions on contract rebooking are expected to bring hedging activity closer to equilibrium and ease demand for the US currency."All of these measures put together should ensure that the hedging ratio should move towards an equilibrium and thus cool off the demand for Dollars and thus the depreciation pressure on the currency," ICICI Bank said in its latest report.However, the longer-term direction of the rupee will depend on capital flows and crude oil prices, according to ICICI Bank. While the special dollar window could ease immediate demand in the regular foreign exchange market, sustained stability will depend on these broader external factors.You use AI every day. Now get your AI Quotient. Take the AIQ test.