Rupee undervalued; RBI will ensure stability in INR, helping it find its correct value

What exactly is the RBI promising to do when it says it will stabilise the rupee and support an orderly movement in its value?

The RBI’s promise means it will support an orderly adjustment in the rupee rather than target one fixed dollar rate. It wants market forces to help determine the rupee’s longer-term value, while reducing sudden, destabilising movements. This matters because sharp currency swings can raise import costs and unsettle businesses and investors.

The Governor said markets may be irrational in the short term but tend to reflect value over the long run. The RBI can therefore smooth disruptions, provide foreign-currency liquidity, or use other measures when trading becomes excessively volatile. Its goal is stability, not preventing every fall in the rupee.

The rupee was nearing its intraday low of 96.96 per dollar when Malhotra spoke. He said the currency may be undervalued by several estimates, including REER. The RBI’s approach suggests it may support an orderly recovery or depreciation, depending on conditions, rather than forcing a particular exchange rate.

What does it mean for a currency to be “undervalued” against the dollar?

A currency is called undervalued when its market exchange rate is below an estimated fair or sustainable value. That estimate may consider inflation, trade, productivity, interest rates, and a country’s ability to pay for imports. “Undervalued” does not mean the currency must immediately rise, or that one exact fair rate exists.

For example, if economic comparisons suggest the rupee should trade at a stronger level than its current dollar rate, analysts may describe it as undervalued. Weak investor sentiment, high oil prices, or temporary capital outflows can push the market rate below that estimate. Supply and demand still determine the actual daily price.

Governor Sanjay Malhotra said several estimates, including REER, indicate that the rupee is not overvalued and may be undervalued. This view can coexist with the rupee nearing its intraday low of 96.96 per dollar because current trading conditions may differ from long-run assessments.

How far has the rupee fallen, and how large was the RBI-supported inflow of nearly $133 billion through FCNR(B) deposits?

The article says the rupee was inching toward its all-time intraday low of 96.96 against the dollar. It does not provide a percentage fall from a previous level, so the clearest measure of its decline is this record-low reference. The currency had been under pressure for much of the year and had depreciated during recent sessions.

To ease that pressure, the RBI introduced a concessional swap facility connected with diaspora deposits and bond issuances. Banks mobilised nearly $133 billion under the FCNR(B) deposit facility alone. These deposits bring foreign currency into banks, increasing available dollar liquidity and reducing immediate demand pressure in currency markets.

The inflow lifted pressure on the rupee for a few days, according to the article. However, the currency later came under pressure again. This shows that a large inflow can provide temporary relief, but lasting exchange-rate stability also depends on oil prices, investor confidence, trade flows, and broader market conditions.

Why do higher crude-oil prices put particular pressure on India’s rupee and economy?

Higher crude prices pressure India because oil is a major import. Indian buyers generally need dollars to pay overseas suppliers. When each barrel costs more, the country must spend more foreign currency for the same physical amount of oil. This increases demand for dollars and can weigh on the rupee.

The effect also reaches the wider economy. A larger oil import bill can widen the trade deficit and reduce the supply of dollars relative to demand. Costlier fuel can raise transport and production expenses, contributing to domestic inflation. Those pressures can affect household spending, company margins, and investor sentiment.

The article links the rupee’s pressure to a spike in crude prices after the West Asia conflict began in late February. India’s oil-importing position makes that shock especially significant. If prices remain high, the RBI may need to manage volatility, while the economy faces higher import costs and pressure on external balances.

What tools can the RBI use to reduce excessive volatility in the rupee, such as attracting foreign-currency deposits or intervening in currency markets?

Central banks have several ways to reduce disorderly currency swings. They can sell foreign currency from reserves when dollar demand surges, buy dollars when the domestic currency rises too quickly, or provide liquidity through swaps. They can also adjust rules and incentives to attract foreign-currency deposits, investment, or bond inflows.

The article gives a specific example. The RBI introduced a concessional swap facility for diaspora deposits and bond issuances. Banks mobilised nearly $133 billion through FCNR(B) deposits alone. Foreign-currency deposits increase the dollars available to banks, helping meet market demand and temporarily easing pressure on the rupee.

These tools can smooth volatility, but they do not permanently remove underlying pressures such as expensive oil or weak capital flows. The article says the inflow relieved pressure for a few days before the rupee came under pressure again. RBI intervention therefore aims at orderly movement, not an artificially fixed rate.

What is the Real Effective Exchange Rate (REER), and how can it suggest that the rupee is undervalued even when its exchange rate against the dollar is near a record low?

The Real Effective Exchange Rate, or REER, measures a currency against a weighted basket of trading partners’ currencies. It also adjusts for differences in inflation or prices. This makes REER broader than the rupee-dollar rate, which compares India with only one country and one currency. It is commonly used to judge relative price competitiveness.

Suppose the rupee weakens against the dollar, but it weakens less against other trading partners, or Indian prices rise more slowly than foreign prices. After these adjustments, the rupee may still appear relatively cheap on a trade-weighted basis. A low REER can therefore suggest undervaluation even during a dollar exchange-rate low.

The article says several estimates, including REER, suggest the rupee is not overvalued and may be undervalued. That does not guarantee an immediate rise. It means current market pricing may be weaker than a broader, inflation-adjusted measure of longer-term value.

How do supply and demand in foreign-exchange markets determine a currency’s value, and why can market prices differ from estimated long-run value in the short term?

Foreign-exchange markets work through supply and demand. Demand for rupees rises when overseas investors buy Indian assets, importers exchange dollars for rupees, or exporters bring earnings home. Demand for dollars rises when India pays for imports, investors move money abroad, or businesses seek foreign-currency funding. The exchange rate changes until buying and selling pressures balance.

For example, a crude-oil price spike makes Indian importers need more dollars. If dollar demand grows faster than dollar supply, the rupee can weaken. Conversely, foreign-currency deposits or investment inflows add dollars to the market and can ease pressure. The article says nearly $133 billion in FCNR(B) mobilisation helped for a few days.

Short-term prices can also reflect fear, speculation, conflict, or sudden capital movements. These forces may be stronger than economic fundamentals temporarily. Governor Malhotra said markets can be irrational in the short term but reflect the right value over the long run, explaining why estimates may show undervaluation during a weak market rate.

Key Facts:

📌 The RBI aims to reduce excessive volatility in the rupee.

📌 It does not promise a fixed exchange rate.

📌 Markets may misprice currencies in the short term.

📌 Undervaluation means a currency trades below estimated fair value.

📌 Market forces still determine the daily exchange rate.

📌 The Governor cited REER as evidence of possible undervaluation.

📌 The rupee neared its intraday low of 96.96 per dollar.