Struggling rupee takes another blow

Singapore: For a currency staggering under the pressure of capital outflows, the terrorist attacks on India's financial capital created another headwind, albeit mild, dimming hopes investors might have had for a quick recovery in the rupee.

Markets in the financial capital Mumbai reacted with typical sangfroid to the attacks, which claimed more than 100 lives and had security forces battling gunmen at luxury hotels.

The rupee fell just about one per cent against the dollar when markets opened on Friday and the stock market was flat.

It seemed as if the currency's fall was just another part of a 16 per cent decline over the past four months fuelled by a gradual drain of foreign investment and the disappearance of cheap dollar loans.

Nothing had changed; except that any hopes the rupee will recover in the next six to eight months have dimmed, analysts said.

Under pressure

"The rupee will continue to be under pressure over the next two quarters," said Sailesh Jha, an economist with Barclays Capital.

"The current account will narrow by the second quarter. But we've got much more to go in terms of equity outflows."

The rupee could fall to 52 per dollar by March, a 4 per cent drop from Friday's rate, with a risk it could hit 53, he says.

The currency hit a record low of 50.57 against the dollar last week.

While most analysts expect the rupee will keep weakening until March 2009, the end of India's fiscal year, there is no consensus beyond that point.

Slowing economic growth and a drop in the price of the huge amounts of oil that India imports should contain the current account deficit, econo-mists say, and even allow it to narrow.

No one is quite sure which way the capital account will swing, however. India's external account posted a $92 billion surplus in the year that ended in March 2008.

As the global financial crisis forced major banks worldwide to tighten credit standards and trim balance-sheets, India has seen foreigners sell shares worth net $13.5 billion. Short-term credit lines have been withdrawn and firms are struggling to raise money through external commercial borrowings (ECBs).

"Nobody knows for sure but I am inclined to the view that portfolio inflows will remain at a relatively lower level, ECB inflows will also be at a lower level but to some degree this will be offset by higher foreign direct investment," said Philip Wyatt, an economist with UBS.

Wyatt thinks there are risks to the outlook because of the militant attacks and the event risk posed by India's general elections early next year.

He expects the rupee to weaken to 52 by the end of 2008, then recover to 50 by March and 48 by the end of 2009.

The rupee's fortunes appear to rest therefore on the economy slowing to the extent that it cools heavy investments and imports without hurting corporate earnings, or property and stocks investments.

Jha is among the more pessimistic. He expects economic growth in the 12 months to March 2010 to slow to 5.2 per cent from an estimated 7 per cent this year.

"That is going to hit sentiment in terms of asset prices," he said. "And there is a de-rating of the continent underway and that is going to gather steam as we go through 2009."

The rupee has already fallen 20 per cent against the dollar this year, the third-biggest loser behind the South Korean won and the Indonesian rupiah among actively traded Asian currencies. The country's stock market is down 55 per cent in 2008.

So far there's little to suggest a balance of payments problem. Short-term debt is low while the Reserve Bank of India's currency reserves, although down $70 billion since June, are still a hefty $246 billion.