By:- Mr. Sreejith Balasubramanian, Senior Vice President & Economist Fixed Income, Bandhan AMC 

The Balance of Payments (BoP) is likely to be negative for two consecutive years after a long time. The Current Account Deficit (CAD) has risen, but the expected levels are not alarming, and capital account outflows have picked up. The recent INR depreciation seems to be driven by higher US tariffs, rising core imports, nominal growth moderation and the extent of RBI’s FX intervention. RBI’s Real Effective Exchange Rate (REER) has fallen 10% y/y but on the back of relative over-valuation during 2023-2024.

The magnitude and pace matter but some depreciation is a necessary macroeconomic cushion. It aids exports (particularly as India’s exports face higher US tariffs vs. most other Emerging Market peers) and disincentivizes imports (generally and in context of higher imports from China), lowering the trade deficit. India’s low foreign currency debt and currently low CPI inflation also augur well. Importantly, it allows monetary policy to focus on domestic growth and inflation (when RBI sells USD, it may have to sterilize the liquidity drain through domestic transactions).

We must see at what levels INR reflects the evolving macroeconomic backdrop, making domestic assets attractive again for foreign investors.