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Updated: September 22, 2011 10:51 IST

Will Reserve Bank intervene in foreign exchange market?

Special Correspondent
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The rupee closed on Wednesday at 48.32/33 a dollar, 0.58 per cent weaker than Tuesday's close of 48.05/06. It touched 48.34 intraday, the weakest exchange rate against the U.S. dollar since September 16, 2009. In the calendar year, the rupee has weakened by more than 7 per cent against the dollar.

The rupee opened stronger on Wednesday at 47.99 and recorded a high of 47.83 on expectation of dollar inflows, before breaching the 48-level again in Wednesday's trade.

In the last two days, market participants were agog with the question whether the central bank would intervene in the foreign exchange market.

In recent times, the Reserve Bank of India (RBI) refrained from intervening in the rupee-dollar exchange rates. However, in the last mid-quarter review of its monetary policy, the central bank aired its concern on the falling rupee. It stated that “In recent weeks, as a result of global risk aversion, the rupee has depreciated, which may have adverse implications for inflation”.

The RBI was in a combative mood to contain inflation and inflationary pressures, which were much above its expectations. Headline year-on-year wholesale price index (WPI) inflation rose from 9.2 per cent in July to 9.8 per cent in August.

The RBI's involvement in the foreign exchange market has declined significantly over the last couple of years, though its stated foreign exchange policy has remained largely unchanged.

This strategy has worked particularly well during risk-positive periods. Except in September 2010, when inflows to Indian markets totalled a record $7 billion, the widening trade deficit has acted as a natural deterrent to rupee appreciation. However, the same does not necessarily hold true for risk-aversion periods; in such periods, the rupee has weakened swiftly, leading losses in most other AXJ (Asian ex-Japan) currencies.

With foreign exchange reserves of $316 billion, the RBI has sufficient capacity to intervene to support the market during periods of dollar demand-supply mismatch.

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