RBI Keeps U.S. Dollar-Indian Rupee Exchange Rate Below 84. Why?

Throughout the summer of 2024, the Indian rupee (INR) has danced precariously close to the ₹84-per-dollar exchange rate, but it hasn’t fallen below this level. Analysts believe this isn’t a coincidence. While the Reserve Bank of India (RBI) has not officially confirmed its interventions, market observers suggest the central bank is quietly taking steps to stabilize the rupee and prevent it from slipping past this psychological barrier. But how exactly is the RBI managing this, and why does it matter?

When it comes to defending the rupee, the RBI has several strategies at its disposal. One of the most common methods involves the use of Non-Deliverable Forwards (NDF) markets. In these markets, the RBI can sell dollars and buy rupees without actually taking delivery of the rupees. Instead, the transactions are settled in dollars, allowing the RBI to influence offshore demand for the rupee without significantly impacting the domestic money supply.

This method allows the central bank to strengthen the rupee subtly and avoid drawing too much attention to its actions. While the RBI rarely confirms these interventions, traders have noticed that whenever the rupee flirts with ₹84 per dollar, the currency finds support, suggesting central bank involvement.

Why ₹84? The RBI hasn't explained why 84 is the magic number, but the logic is similar to why the Federal Reserve consistently targets a 2% inflation rate. Deviating from this established norm could unsettle speculators, signaling that the central bank may not uphold its usual policies, which could erode confidence in its commitment to maintaining stable benchmarks. The RBI’s interventions seem designed to prevent the rupee from crossing the ₹84 mark because doing so could trigger a chain reaction of speculative pressure. If the rupee were to fall below ₹84, traders and investors might bet on further depreciation, creating a self-fulfilling prophecy of a sharp and uncontrolled decline.

An 84 target also gives investors forward-looking confidence. This is especially important for foreign direct investment (FDI). A stable exchange rate reduces the currency risk for foreign investors, making Indian assets more attractive. This has been crucial in maintaining healthy FDI inflows, which rose to $6.9 billion in the first quarter of 2024-25, up from $4.7 billion a year earlier. In contrast, emerging market countries like Indonesia and Colombia, where currency volatility is higher, struggle to attract consistent long-term investment.

RBI’s intervention has been successful, making it the most stable currency of its competitors compared to the U.S. dollar.

However, the RBI isn’t trying to halt the rupee’s depreciation entirely. The central bank is focused on allowing the rupee to weaken in a controlled, “orderly manner,” ensuring that it doesn’t lose too much value too quickly. According to VRC Reddy, deputy general manager at Karur Vysya Bank, the RBI’s goal is to allow gradual depreciation while maintaining India’s export competitiveness.

A weaker rupee benefits exporters, particularly in sectors like software and pharmaceuticals, by making Indian goods and services cheaper in global markets. But if the rupee were to depreciate too quickly, it could lead to inflation and erode the purchasing power of Indian consumers, especially when it comes to essential imports like oil.

There’s plenty of demand in the market to push the rupee below ₹84. Foreign exchange traders have commented that there is "sufficient and more" dollar demand to force the rupee lower, yet the RBI remains firm in its defense of this level. This suggests that the central bank is prioritizing stability over market forces, a move that helps shield the Indian economy from the volatility that often plagues other emerging markets.

If the rupee were allowed to fall further, it would not only lead to inflation but could also create panic in the markets. Currency volatility is one of the key factors that deter foreign investors from placing capital in emerging markets, especially those like Indonesia and various parts of Africa, where sharp currency fluctuations are common.