India left interest rates unchanged, but the rupee lost 1.8% against the dollar in its deepest plunge in more than a month as investors worried that further measures will be needed to support a currency that is teetering close to a record low.
The dovish tone struck in the Reserve Bank of India’s policy statement had caused the rupee to sag, but it then crumpled when Governor Duvvuri Subbarao poured cold water on chances for a sovereign bond issue to help plug a yawning current account gap.
“In the Reserve Bank’s view, the cost of a sovereign bond issue, especially in the current juncture, outweighs benefits,” Subbarao told reporters after delivering the final monetary policy statement of his five-year tenure, unless it is extended.
As expected, the RBI left its policy repo rate at 7.25% and held banks’ cash reserve ratio at a record low 4.00%, but said it will roll back recent liquidity tightening measures when stability returns to the currency market, enabling it to resume supporting growth.
Bond investors were initially cheered by that stance, but lost heart once they saw the rupee begin to slide.
The partially convertible rupee tumbled past the symbolically significant 60 per dollar, ending the day at 60.47.
“There were no rupee supportive measures in the policy, like a hike in the policy rate,” said Navin Raghuvanshi, associate vice president at Development Credit Bank.
Earlier this month, the RBI took steps to tighten market liquidity and push up short term interest rates in order to make it harder to speculate against the currency after it hit a record low 61.21 to the dollar on July 8. “Markets will test the RBI again ... and possibly this will provoke new RBI measures,” said Dariusz Kowalczyk, senior economist for Asia excluding Japan at Credit Agricole CIB in Hong Kong. “The bank’s credibility is at stake now that it is targeting primarily the currency.”
Subbarao is in a tough position. The rupee has given up all the gains since the RBI’s rescue measures on July 15, which came at the cost of squeezing corporate borrowers and crimping India’s already weak growth outlook.
The longer the squeeze goes on the more likely it becomes that commercial banks will have to raise their lending rates—dealing another blow to an economy that grew at a decade low of five% in the last fiscal year.
Pratip Chaudhuri, the chairman of State Bank of India, said his own bank would take a decision in two or three weeks. Page 38