Let the rupee move freely: RBI intervention risks more harm than good

Business Standard April 21, 2026

The Indian rupee has been under intense scrutiny in recent weeks, with its depreciation against the US dollar attracting widespread attention. Much of the commentary has framed this decline as a sign of weakness, often applauding the central bank’s efforts to resist it. But this view overlooks a basic point: The exchange rate is a price. And like any price, it must adjust to shifts in demand and supply. Trying to hold it at an artificial level does not fix underlying imbalances — it only postpones the adjustment and risks making the eventual correction more disruptive.

Consider a familiar example. When the monsoon fails, the supply of vegetables falls short of demand. Prices rise, and this serves a purpose: Households cut back consumption, and farmers are encouraged to bring as much produce as possible to the market. The imbalance begins to correct itself.

Now imagine the government steps in to prevent prices from rising. The gap between demand and supply does not disappear—it simply persists. To manage it, the government would then have to impose restrictions, such as rationing or limits on sales. In the end, consumers would face shortages and reduced access, defeating the very purpose of the intervention. This is precisely why governments typically allow such prices to adjust rather than trying to control them.

The same logic applies to the foreign exchange market. When demand for dollars exceeds supply, the price of the dollar rises—and the rupee falls. What we are seeing today is simply this basic market adjustment at work.

So why is demand for dollars rising faster than supply? There are two main reasons.

First, India has been running a current account deficit, which was around $40 billion in 2025-26, but foreign capital inflows were insufficient to finance it. This imbalance helps explain why the rupee was already under pressure last year.

Second, the war in West Asia has made matters worse. By pushing up the prices of key imports, it is likely to widen the current account deficit further—potentially to around $80 billion this year.

As a result, India faces a difficult challenge: It needs to attract around $80 billion in foreign capital at a time when global investors are becoming more risk-averse and pulling money out of emerging markets into safer developed economies. In such a situation, the most practical way to restore balance is to allow the rupee to depreciate.

How does depreciation help? In much the same way that higher vegetable prices restore balance—by reducing demand and encouraging supply. The exchange rate works through two key channels.

First, a weaker rupee helps restore balance through trade. As it depreciates, Indian goods become cheaper for foreign buyers, boosting exports and bringing in more dollars. At the same time, imports become more expensive, which reduces domestic demand for foreign goods. Together, these effects help narrow the current account deficit.

Second, a weaker rupee makes Indian financial assets cheaper for foreign investors. In dollar terms, Indian stocks and bonds now cost less, which can make them more attractive. This can encourage foreign investment into Indian markets, bringing in dollars and helping to finance the current account deficit.

In contrast, if policymakers try to hold the exchange rate at an artificial level, the underlying imbalance does not disappear—it lingers, and can even intensify over time.

The main reason is that the market is aware of the $80 billion funding gap—and that the central bank cannot finance it indefinitely by selling dollars, since it will eventually run out of reserves. Unless this gap is expected to close on its own, some depreciation of the rupee becomes inevitable. Faced with this prospect, firms and households will naturally look for ways to safeguard their wealth, including shifting part of it abroad.

There is another concern. When the central bank tries to manage the exchange rate, the private sector shifts its focus from market signals to guessing the central bank’s next move. This uncertainty can itself be destabilising. If the currency is supported through restrictions—such as the recent curbs on gold and silver imports—it can unsettle the private sector and raise fears of further controls. Such fears can trigger precautionary behaviour, with firms and households pre-emptively moving money out of the country, adding to the pressure on the rupee.

In other words, attempts by the central bank to hold back the rupee risk doing more harm than good — by eroding confidence, fuelling uncertainty, and distorting market signals. This can widen the gap between dollar demand and supply, discourage investment, and complicate economic recovery. The exchange rate is not the problem; it is the mechanism through which the problem is corrected. Holding it back only delays the adjustment and makes the eventual cost higher.

In these circumstances, the most effective policy is also the simplest: Allow the rupee to move freely and do its job as the economy’s primary shock absorber.

From scale to depth: Dismantling frictions within India’s financial inclusion juggernaut

From scale to depth: Dismantling frictions within India’s financial inclusion juggernaut, Ideas for India, April 20, 2026.

RBI’s rupee defence may backfire

Business Standard April 14, 2026

Since the onset of the West Asia conflict, the Indian rupee has come under sustained pressure against the dollar. In response, the Reserve Bank of India (RBI) has stepped up its defence of the currency. However, the measures announced by it risk backfiring, disrupting the foreign exchange market, and intensifying the very pressures they seek to contain, with broader consequences for the economy.

When the war broke out in late February 2026, the RBI, backed by foreign exchange reserves of nearly $730 billion, intervened aggressively. It sold over $30 billion in the spot market in March alone and built up a large short dollar position in the forward market. Despite these efforts, the rupee continued to weaken.

In late March, the RBI shifted strategy. It imposed regulatory restrictions —barring banks from taking positions in the offshore non-deliverable forward (NDF) market and capping their daily onshore FX exposure to $100 million each. These measures appeared to have some immediate effect, with the rupee stabilising briefly. But the key question is whether this strategy can hold.

There are strong reasons to doubt it.

The first concern is the sweeping and abrupt nature of the measures. The RBI did not merely restrict new positions; it required banks to unwind existing ones, reportedly at a cost of ₹4,000–5,000 crore. In effect, banks were penalised for actions that were fully legitimate at the time. Such retrospective costs risk undermining confidence and making banks more cautious in FX markets. Lower participation could reduce liquidity. And when liquidity dries up, currencies tend to become more volatile, not less.

This is particularly troubling because the activity being curtailed was neither illegal nor questionable. Much of it was simple arbitrage — buying dollars in the onshore market and selling them offshore and keeping exchange rates in the two markets aligned. These trades were perfectly normal and had been explicitly permitted by the RBI itself.

Indeed, for several years the RBI had encouraged offshore trading in the rupee as part of a broader push to internationalise the currency. A large offshore market has developed in centres such as Singapore, London, and Dubai, with an estimated $70 billion in daily turnover. By suddenly barring Indian banks from participating in this market, the RBI has reversed its earlier stance. While the central bank has described the move as temporary, such an abrupt policy shift raises concerns about consistency.

To the market, these measures send an uncomfortable signal — that the situation may be more serious than the RBI’s reserves alone can handle. Instead of reassuring investors, this risks eroding confidence. The opposite of what the intervention was meant to achieve.

There is also a broader concern. Banning legitimate market activity raises questions about what might come next. Investors may begin to worry about further restrictions — such as limits on outward remittances — and respond by moving funds out pre-emptively. Foreign investors may become wary of bringing capital into India if there is a risk that exit routes could later be constrained. If such fears take hold, the RBI’s actions could end up triggering the very capital outflows it is trying to prevent.

At the same time, these measures risk impairing the functioning of the FX market itself. In periods of heightened volatility such as the present, firms need to hedge their currency risk. By capping banks’ FX positions and limiting their participation, these measures are likely to raise hedging costs. Early reports suggest this is already happening. As Indian banks step back, hedging has become more expensive — precisely when foreign portfolio investors need certainty on exchange rates before committing capital. This makes India a less attractive destination for investment at a time when capital inflows are crucial.

This brings us to the fundamental problem: The pressure on the rupee is not merely cyclical but structural.

For some time now, capital inflows into India have not been sufficient to finance even a modest current account deficit of around 1 per cent of gross domestic product (GDP). This imbalance helps explain why the rupee was already among Asia’s weakest currencies in 2025, even before the war.

The West Asia conflict has only worsened this situation. Higher global oil and gas prices are widening the current account deficit, reflecting India’s heavy dependence on energy imports. At the same time, capital inflows are weakening due to global risk aversion and a decline in investor appetite for Indian assets. In such circumstances, some depreciation of the rupee is not only inevitable but necessary to restore external balance.

Against this backdrop, it is unclear what the RBI’s measures can realistically achieve. At best, they may delay the needed adjustment. At worst, they could exacerbate underlying pressures by undermining confidence and discouraging capital inflows.

The costs are already being felt beyond the FX market. Uncertainty around the FX strategy has pushed up market interest rates, amplifying the growth-dampening effects of the energy shock.

Perhaps the restrictions will be rolled back in due course. But even then, restoring confidence will take much longer. 

RBI's clarity of communication will be as critical as the policy itself

Business Standard March 17, 2026

The Reserve Bank of India will announce its next monetary policy on April 9. While every meeting of the Monetary Policy Committee (MPC) draws close scrutiny, this one comes at a particularly critical juncture because of the conflict in West Asia. Even if the MPC leaves the policy rate unchanged, its communication will be crucial in calming financial markets amid heightened uncertainty. Markets will look for clear guidance on how the MPC interprets the uncertainty and what it implies for the future course of monetary policy.

In inflation-targeting economies such as India, communication is a key instrument of monetary policy. Financial markets analyse MPC statements and the governor’s remarks for signals about the future path of interest rates. When central bank communication becomes complex or ambiguous, market volatility tends to rise (Sengupta and Mathur, 2019). This matters even more in periods of uncertainty, when investors and firms struggle to form clear expectations about the economic outlook.

Two main sources of uncertainty will shape the backdrop to the MPC’s decision in the coming weeks.

The first is the war in West Asia. Until recently, India’s macroeconomic conditions appeared stable, with strong growth and moderate inflation. That stability has quickly eroded.

The conflict has disrupted supplies of key commodities such as crude oil, natural gas, and fertilisers. India imports nearly 90 per cent of its crude oil, about half of its natural gas, and roughly a quarter to a third of its fertiliser needs, much of it from West Asia. Prolonged disruptions could push up domestic energy and fertiliser prices and eventually feed into food prices and headline inflation.

Inflation had already begun to edge up even before these shocks. The consumer price index-based inflation rose to 3.2 per cent in February, a nine-month high. Although still below the RBI’s 4 per cent target, the margin for comfort has narrowed compared with June 2025 to January 2026, when inflation averaged about 1.5 per cent.

At the same time, disruptions to global trade routes could hurt exports and production, given that West Asia accounts for roughly 15 per cent of India’s exports. Higher energy costs may further weaken output and growth. Supply shortages often force adjustments that compress demand. The government has asked domestic gas producers to divert supplies towards households, reducing availability for industries such as plastics, chemicals, fertilisers and aluminium. Restaurants and other service sectors that rely on gas may face higher costs and weaker sales. Rising jet fuel prices are also pushing up airfares, which could dampen travel and tourism demand.

This creates a policy dilemma for the MPC. Should it prioritise containing inflation and adopt a more hawkish stance, or support growth as uncertainty rises? The committee will also need to clarify whether the recent increase in inflationary pressures is likely to be temporary or could it generate second-round effects that require a policy response. Markets will look for clarity on how the MPC balances these risks, without which, uncertainty about the policy outlook will persist.

It is also worth noting that even though the RBI reduced the repo rate by a cumulative 125 basis points in 2025 to support growth, long-term bond yields have not fallen. The yield on the 10-year government security has risen to around 6.75-6.80 per cent, close to levels seen before the rate-cutting cycle began. Normally, bond yields decline when policy rates fall. This divergence reflects rising uncertainty in financial markets. A clear articulation of the MPC’s assessment of macroeconomic risks could help stabilise expectations and prevent further increases in yields during this volatile period.

The second source of uncertainty is the new CPI index introduced in February. The revision changes both the weightings assigned to items and the composition of the consumption basket, which has expanded from 299 to 358 items. The weight of food has fallen sharply from about 46 per cent to around 37 per cent. Within food, the share of volatile items such as cereals has declined, while relatively stable components such as protein-rich foods have gained importance. A lower food weight may make headline inflation less sensitive to temporary supply shocks, such as monsoon variability. If inflation becomes less volatile, monetary policy could also become more predictable.

But the implications are not automatic. Markets will want to understand how the MPC interprets the new index. Does the change in weightings alter its assessment of inflation dynamics? Will food shocks play a smaller role in policy decisions? Could the behaviour of core (non-food, non-fuel) inflation change? Clear communication on these questions will help stabilise expectations as the new CPI becomes the basis for monetary policy.

As the MPC prepares its April 9 statement, clarity of communication will matter as much as the policy decision itself. Minimising surprises and setting clear expectations will help ensure monetary policy remains effective in the volatile months ahead.

India-EU trade pact moves from promise to reality but challenges persist

Business Standard February 17, 2026

The announcement of a free trade agreement (FTA) between India and the European Union is a major turning point—not so much for its immediate gains, but for what it signals about India’s economic strategy. After several years of high tariffs and inward-looking policies, the deal reflects a clear recognition by the Indian government that exports must play a bigger role in driving growth. However, an FTA is only a framework. It creates opportunities, but it is not a cure-all. To fully benefit from this deal, India will still need significant domestic reforms.

The deal reflects the government’s confidence that Indian firms are capable of competing more strongly in global markets. Where does this confidence come from? In part, from the sheer room India has to expand its global presence. Despite being the world’s fourth-largest economy, India accounts for less than 2 per cent of global goods exports. Even a two-percentage-point rise in market share would effectively double exports.

Confidence also stems from global shifts. Supply chains are diversifying away from China, and European firms are seeking alternative production bases. With nearly 65 per cent of its population under 35 and significant untapped manufacturing potential, India is well placed to benefit.

Finally, the government’s confidence also comes from the opportunity that FTAs create. The EU pact offers Indian exporters preferential access to 450 million consumers across 27 countries—one of the world’s largest and richest markets. Alongside other proposed deals with the United States, Chile, Peru and the Eurasian Economic Union, it could help generate the millions of jobs India needs each year.

However, market access alone does not ensure higher exports or more jobs. To translate access into outcomes, India will need structural reforms that roll back protectionist barriers. Three such reforms will be key.

First, India’s trade regime requires reform. Tariffs on intermediate goods must be reduced if exports are to become a genuine growth engine. Indian firms cannot compete globally if key inputs remain costly. They need reliable access to low-cost components, supported by streamlined customs procedures and simpler regulations to minimise delays. Yet the recent Union Budget left most import duties unchanged, despite the need for rationalisation. India should also rethink its extensive use of Quality Control Orders (QCOs), which function as de facto import barriers. Although a few have been withdrawn, more than 700 remain, disrupting supply chains and creating uncertainty for firms planning production and exports.

Second, while the EU FTA may expand market access, it will not by itself attract large-scale manufacturing investment. That requires a credible investment protection framework. In 2015, India unilaterally terminated around 77 Bilateral Investment Treaties (BITs), leaving foreign investors with limited recourse in disputes with domestic firms or the government. A revised Model BIT introduced in 2016 mandates that investors exhaust domestic legal remedies for five years before seeking international arbitration—terms few countries have accepted. As a result, India now has BITs with only a handful of relatively minor partners, while major global firms remain cautious about committing long-term capital.

Finally, India should seriously consider joining major regional trade groupings such as the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP). These agreements go well beyond tariff cuts. They require members to strengthen domestic standards in labour laws, intellectual property, regulatory transparency and competition policy—areas where India needs reforms, but has found politically difficult to implement.

International commitments can help anchor domestic change. China’s entry into the WTO in 2001 shows how external discipline can accelerate internal reform. Joining high-standard regional agreements would similarly signal that India’s policy direction is stable and long-term. That credibility, in turn, can boost investor confidence and attract greater investment. 

India competes in a global trading system still shaped by China—a dominant exporter with deep manufacturing capabilities and highly integrated supply chains built over decades. In that context, the FTA with the EU is an important step forward. But it must mark the beginning of a larger transformation, not the end of reform. What India needs is a sustained commitment to trade openness. If it wants to become a global manufacturing hub and achieve its “Viksit Bharat 2047” goal, trade agreements must be backed by lower input tariffs, simpler regulations, stronger investment protection and deeper structural reforms.

Global supply chains are being reorganised in real time. The question is not whether opportunities exist—it is whether India will move fast and decisively enough to seize them.

Why growth isn’t saving the rupee

Business Standard January 20, 2026

Last year was not a good one for the Indian rupee. It weakened steadily, even against a soft US dollar, ending 2025 as Asia’s worst-performing currency. Some argue that the rupee’s slide will be a blessing in disguise, giving long-struggling exporters a much-needed boost. Perhaps it will. But before taking comfort, it is worth asking a more fundamental question: Why is the rupee falling in the first place?

The puzzle is sharpened by the apparent strength of the Indian economy. Growth remains brisk, and inflation has fallen to multi-decade lows. It is true that exports have taken a hit from higher US tariffs, with merchandise shipments growing by less than 1 per cent year-on-year between August and December 2025. Yet gross domestic product (GDP) is still projected to expand by 6.5-7 per cent in 2026-27, keeping India firmly in place as the world's fastest-growing major economy.

Ordinarily, such performance would attract foreign capital, as investors chase returns, lifting the currency in the process. That was the pattern during the boom of 2004-08, when equity inflows averaged a little over 2 per cent of GDP and the rupee appreciated by around 2.5-3 per cent a year. This time, the script has flipped. Despite strong growth, the rupee has fallen by more than 5 per cent so far in 2025-26.

What makes the decline more striking is the modest current account deficit (CAD) — around 1 per cent of GDP in April-September 2025. A weakening rupee suggests that even financing so small a gap has become difficult.

The reason lies in a persistent imbalance: demand for rupees has lagged supply, reflecting pressures on both the trade and capital accounts. Merchandise imports averaged about $62 billion a month in 2025, far exceeding exports of roughly $37 billion and leaving a $25 billion trade deficit. Although services exports offset much of this gap, weak goods exports and a rising import bill — driven in part by higher gold and silver prices — have skewed demand towards dollars. Importers are buying more dollars than exporters are supplying, pushing the dollar up and the rupee down.

Normally, such a shortfall would be easy to finance — if capital inflows were behaving as they usually do. Last year, they were anything but normal. In 2025, foreign portfolio investors (FPIs) withdrew about $19 billion from Indian equities on a net basis — the worst outflow on record. This exodus occurred even as capital flows into the broader MSCI Emerging Markets index remained robust. India was a clear outlier.

Foreign direct investment (FDI) has been no more reassuring. This should have been a moment of opportunity, with multinationals diversifying away from China and India opening more sectors to foreign capital while offering incentives through production-linked schemes. Yet investors remain hesitant. Gross FDI inflows have been stuck at around 1.7 per cent of GDP since early 2023, well below the 3 per cent seen in the mid-2000s.

The graph tells the story starkly. Between January 2024 and October 2025, gross FDI inflows averaged about $7 billion a month, while withdrawals ran close to $4 billion, leaving net inflows of barely $3 billion — negligible for a $4 trillion economy. Once rising outward investment by Indian firms, averaging $2-3 billion a month, is taken into account, the picture worsens. In effect, India has received close to zero net FDI each month over the past 22 months.

The conclusion is hard to escape: India has failed to capitalise on the global shift in FDI in any meaningful way. This has in turn soured the mood among portfolio investors who now appear far less confident about India’s long-term growth prospects. Instead, capital is being redirected to East Asia, where economies are seen as better positioned to benefit from the China+1 strategy and the artificial intelligence (AI) boom. Delays to a US-India trade deal have only reinforced this perception. The rupee’s slide reflects this deeper malaise — India’s waning appeal as a destination for foreign capital. The Reserve Bank of India’s heavy interventions in the foreign-exchange market have offered only a temporary fix; a durable remedy lies in reforms that restore credibility and rekindle India’s appeal to global investors. 

All of this places the forthcoming Union Budget firmly in the spotlight. Strong headline numbers — rapid growth, low inflation and a modest current account deficit — have fostered the belief that little needs fixing. That would be a misjudgement. Both foreign investors and domestic firms are signalling that something is amiss, as evident in the prolonged weakness of private investment. The government has taken a few policy steps in recent months. One can only hope that more decisive measures will follow when the Budget is presented on February 1.

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