India stepped up efforts to help the rupee after its plunge to a record low, raising two interest rates in a move that escalates a tightening in liquidity across most of the biggest emerging markets. Bond yields and the rupee surged.
The central bank announced the decision late yesterday after Governor Duvvuri Subbarao earlier in the day canceled a speech to meet the finance minister. The RBI raised two rates by 2 percentage points, and plans to drain 120 billion rupees ($2 billion) through open market sales of government bonds.
The rupee rose as much as 1.3 percent today, and the RBI’s move left Russia as the only BRIC economy to not have reined in funds in its financial system. Brazil has raised its benchmark rates three times this year and a cash squeeze in China sent interbank borrowing costs soaring to records last month.
“The importance of this move is that it signals that the RBI is willing to act and make it much more costly to short the rupee,” JPMorgan Chase & Co. analysts Jahangir Aziz and Sajjid Chinoy said in a note. “These measures are only preconditions to the RBI squeezing rupee liquidity to engineer much higher short-term interest rates.”
The rupee, which has been hurt by a record current-account deficit, has sunk 7.4 percent against the dollar in 2013. It rose 0.9 percent to 59.3875 as of 11:55 a.m. in Mumbai after touching an all-time low July 8. The yield on the 8.15 percent bond maturing June 2022 rose 48 basis points to 8.15 percent.
“These measures should not be read as a prelude to any policy rate changes,” Finance Minister Palaniappan Chidambaram told reporters in Jaipur today. “These measures in no way affect our commitment to growth. Measures are taken to quell excessive speculation and reduce volatility and stabilize the rupee.”
The central bank increased the marginal standing facility and the bank rate to 10.25 percent from 8.25 percent, it said in a statement on its website. The monetary authority said it will conduct open market sales of government bonds worth 120 billion rupees on July 18, a step to drain cash from the economy.
“These moves will not only push up interest rates but also lead to tightened liquidity conditions,” said Prasanna Ananthasubramanian, an economist at ICICI Securities Primary Dealership Ltd. in Mumbai. “It’s quite surprising that the central bank has used these measures to support the rupee at a time when the economy is in such a bad state.”
India’s economy expanded 5 percent in the fiscal year ended March, the slowest since 2003, hurt by moderating investment, easing domestic demand and subdued exports. Subbarao kept the repurchase rate, the policy benchmark, at 7.25 percent in June as the rupee’s drop stoked price pressures, snapping a run of three cuts to fight the weakest growth in a decade.
Emerging markets from Brazil to Indonesia have raised borrowing costs in 2013 to aid their currencies as the prospect of reduced U.S. monetary stimulus curbs demand for emerging-market assets. Turkey’s central bank said yesterday it may raise interest rates at its meeting next week.
In contrast, Bank Rossii opted to keep rates unchanged at its July meeting while planning a new facility that expands lenders’ access to cash even as inflation remains above the central bank’s target range. Bank Rossii cut some long-term lending rates at its previous three meetings.
The Reserve Bank of India said lenders borrowing under the liquidity adjustment facility will be limited to 1 percent of the net demand and time liabilities and that allocation to banks will be in proportion to their bids.
Yesterday’s “tightening moves are aimed at making the rupee liquidity dearer” and arresting the decline in the currency, said Sonal Varma, an economist at Nomura Holdings Inc. in Mumbai.
The central bank said it will “continue to closely monitor the markets, the liquidity situation and the macroeconomic developments and will take such other measures as may be necessary, consistent with the growth-inflation dynamics and macroeconomic stability.”
A report yesterday showed wholesale-price inflation accelerated to a three-month high of 4.86 percent in June. Consumer-price growth quickened toward 10 percent last month.
Elsewhere today, Australia’s central bank said its currency’s decline and past interest-rate cuts meant its policy setting was appropriate even as it maintained room for future reductions, according to minutes of its July 2 meeting. New Zealand reported consumer price gains slowed last quarter, and the U.K., the European Union and the U.S. will also release inflation reports.
The U.S. may also say industrial output rose in June, while the ZEW Center for European Economic Research may report German investor confidence climbed this month, according to Bloomberg surveys.