© Bloomberg. Indian two thousand and five hundred rupee banknotes are arranged for a photograph in Mumbai, India, on Sunday, Jan. 29, 2017. Reviving India’s growth and boosting demand are essential as gross domestic product is likely to grow 7.1 percent in the year through March, the slowest pace in three years — and this is before considering the impact of currency shortages in an economy where 98 percent of consumer payments are made in cash. Photographer: Dhiraj Singh/Bloomberg
(Bloomberg) — As rupee bulls rejoice over the longest stretch of gains in more than a year, the currency’s advance appears to be causing discomfort for India’s central bank.
The Reserve Bank of India late Wednesday announced plans to hold a $5 billion foreign-exchange swap auction for a three-year tenor, to supply funds to banks for a longer duration. Currency watchers say the move also serves as an intervention as the rupee heads for a fifth straight weekly gain.
“This is a kind of intervention as the RBI may be anticipating excessive foreign inflows in the coming days and signaling its discomfort with such a strong appreciation,” said Sajal Gupta, head of foreign exchange at Edelweiss Securities Ltd. in Mumbai.
The RBI’s move to inject funds comes as election spending by political parties ahead of the national vote beginning next month and advance tax payments before the fiscal year-end put a strain on banking liquidity. India’s six-week-long polling exercise is forecast to cost an unprecedented 500 billion rupees ($7.2 billion), according to the New Delhi-based Centre for Media Studies.
The rupee has rallied 2.3 percent in the past month as foreign inflows into local equities and bonds have surged, and the nation’s military tension with Pakistan has eased. Stocks have attracted $4.1 billion so far this year, while rupee bonds have drawn $849 billion this month alone.
The central bank plans to conduct the dollar-rupee buy-sell swap auction on March 26, it said, adding that the dollar amount mobilized through this auction would also reflect in RBI’s foreign exchange reserves for the tenor.
The RBI had introduced foreign-exchange swaps in 2013 to stem the losses suffered by the rupee amid an emerging-market rout, asking banks to bring in dollar inflows from non-resident Indians. That garnered about $34 billion of inflows.
Click here for the details of RBI’s swap plan
The proposed swap may boost banks’ demand for dollars in lieu of the rupee, curtailing gains in the local currency, according to Edelweiss Securities.
“This will be negative for the rupee and can weaken it toward 70 per dollar,” said Anindya Banerjee, a currency analyst at Kotak Securities Ltd. in Mumbai. “The RBI is telegraphing to the market that it is not comfortable with the current rupee strength,” besides augmenting money supply to manage the fiscal year-end liquidity needs, he said.
The rupee halted a three-day gain, falling 0.1 percent to 69.5850 per dollar as of 10:11 a.m. in Mumbai. The RBI has stated that it intervenes in the currency market only to curb undue volatility, and doesn’t target any levels.
Bond traders expect the swap tool to reduce the need for the central bank’s open-market purchases, a measure it has used to infuse liquidity. Such purchases are estimated to have reached a record 3 trillion rupees in the year ending March.
“If this becomes a regular tool, it reduces the need of OMO buybacks,” said Vivek Rajpal, a rates strategist at Nomura Holdings Inc. in Singapore.
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