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RBI careful of using forex reserves to support rupee

Posted on 18 November 2011,    
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The Reserve Bank of India will be careful about using foreign exchange reserves aggressively to protect depreciation of the rupee, Subir Gokarn, a deputy governor of the Reserve Bank of India, told television channel CNBC TV-18 on Thursday.

The central bank has maintained in the past that it does not target a specific level for the rupee but steps in only to iron out currency volatility.

At 12:00 pm, the partially convertible rupee was little changed at 50.70/71 per dollar. On Wednesday, it had dropped to 50.96 -- its weakest since 31 March 2009.

Rupee has been the worst performing currency in Asia so far this year, having shed nearly 11.8% of its value. It is down 13.4% from its 2011 high reached in late July.

“They (forex reserves) are a result of excess of capital inflows over the current account deficit and to that extent they reflect the cushion that we have against our external liabilities,” Gokarn said.

“So the use of reserves aggressively to defend the exchange rate which may not be defensible beyond a point means we that end up with the same pressures and with a lower cushion. So we will be very careful about how we use our reserves”.

A widening trade deficit led mainly by rapidly slowing exports has also pressured the rupee.

The deputy governor also said demand-side pressures on inflation are starting to ease, a factor the central bank will take into account in deciding the course of monetary action at its December policy review.

In its October policy review the RBI had said that if inflationary pressures start easing by December, there may not be a need to hike rates further. Earlier this week, Gokarn had said the RBI would stick to that guidance for now.

Gokarn also belied fears that the Indian economy has moved down to a lower growth trajectory of 6 to 6.5% for the next couple of years.

“Obviously there are shocks that might be persistent that could take you to below 7% for some period of time but 6 to 6.5% is not reasonably unlikely”, he said.

Liquidity woes to persist

Gokarn said that he expects the liquidity shortage in the markets to persist for the next few weeks, but the RBI is not considering a change in its stance on cash reserve ratio (CRR), or the proportion of deposits that banks must mandatorily set aside as cash with the central bank, at the moment.

On Wednesday, banks had borrowed Rs1.04 trillion from the RBI’s repo window, and Rs1.06 trillion the day before, both nearly double the daily borrowing at the end of the first week of November, reflecting the extent of cash squeeze.

“CRR is seen by us as a part of the monetary (policy) dash board and so to use it as a tactical instrument ... we are not at that position,” Gokarn told reporters.

The RBI on Wednesday said it will buyback bonds from the market to ease the liquidity crunch, a move which is expected to cool the sharp spike in yields that have raised the government’s borrowing costs.

“The OMO doesn’t signal any change in the monetary policy stance, but CRR change runs the risk of it”, Gokarn said.

The central bank does not have a roadmap for bond buybacks but is an instrument that the bank was using to respond to certain stresses in the system, he said.


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