IMD issue fails to arrest rupee fall

MUMBAI, NOV 16: The India Millennium Deposit (IMD) issue which mopped up $ 5.5 billion from the overseas market has failed in arresting th...

MUMBAI, NOV 16: The India Millennium Deposit (IMD) issue which mopped up $ 5.5 billion from the overseas market has failed in arresting the rupee’s fall. The Indian currency fell sharply by about eight paise to close at a two week’s low of 46.8350/8450 against the American greenback on heavy corporate dollar demand and soaring international oil prices.

At Thursday’s level, the rupee has fallen by nearly 20 paise in the last 10 days. The fall continued even after the State Bank of India announced mop-up of over $ 5.5 billion through its IMD issue. “The fall in the rupee value has shown that the IMD issue has failed in one of its objectives. Normally when dollars come to the banking system, the rupee should appreciate,” said a dealer.

India’s foreign exchange reserves had also fallen by $ 114 million during the week ended November 3 in spite of the inflows from the IMD issue. “It’s surprising that both forex reserves and the rupee fell when over $ 5 billion was flowing into the country,” dealers said.

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According to forex dealers, besides concern over the rising oil prices, Wednesday’s all India bank strike also increased the dollar demand as importers rushed to cover their two-day’s requirement today. State-run banks, which observed a national-wide strike yesterday, were reportedly buying dollar heavily for the corporate and PSU clients, they added.

The IMD issue will have implications on the economy. For one, there will be an impact on the country’s external debt burden. “The IMD offered an interest of 8.5% on dollar deposits, 6.85% on euro deposits and 7.85% on pound sterling deposits. Since nearly 90-95% of the total collections are estimated to be cumulative deposits, the interest payment on these will be back-ended. So the principal repayment of $5.5 billion coupled with an estimated interest repayment of around $1.9-2 billion will imply an additional external debt service burden of $7.4-7.5 billion in 2005-06,” said Crisil in a study.

But the IMD inflows will result in a sharp increase in domestic liquidity. “At the current exchange rate of 46.74 to a dollar, $ 5.5 billion inflows imply an addition of Rs 25,700 crore to the money market liquidity. That’s equivalent to around 3.7 per cent reduction in the cash serve ratio. Unless sterilised, such a large injection of liquidity would depress short-term interest rates to unsustainable lows,” Crisil said.

The Reserve Bank of India (RBI) is expected to extensively use open market operations (OMOs) as a monetary tool to absorb excess liquidity, which should stabilise interest rates. The OMOs will also enable the central bank to reduce the amount of securities which currently holds through devolvements and or private placements, thereby reducing the net RBI credit to the government. In addition, the RBI can conduct the remaining government borrowing programmes for the year with relative ease.