Rupee Drops Most in Two Weeks on Cyprus Concerns; Bonds Decline

India’s rupee dropped the most in two weeks as an unprecedented levy on Cyprus’s bank savings threatens to throw Europe back into crisis.

Euro-area finance ministers reached an agreement on March 16 forcing depositors in Cypriot banks to share in the cost of a bailout. While Cyprus accounts for less than half a percent of the 17-nation euro economy, the concern is that the one-time tax could trigger runs on lenders across Europe and further destabilize the financial system. India’s bonds declined before the central bank’s interest-rate review tomorrow.

“Currently, the global scenario is weighing on the rupee,” said Ashtosh Raina, Mumbai-based head of foreign-exchange trading at HDFC Bank Ltd., India’s largest lender by market capitalization. “A quarter-percentage-point cut from the Reserve Bank of India has been factored in, and anything away from consensus will move the market dramatically.”

The rupee declined 0.3 percent to 54.1750 per dollar in Mumbai, the biggest drop since March 1, according to data compiled by Bloomberg. One-month implied volatility, a gauge of expected moves in the exchange rate used to price options, rose 25 basis points, or 0.25 percentage point, to 9.22 percent. The Dollar Index, which tracks the greenback against six trading partners, climbed 0.5 percent.

Indian companies are “quite happy” with the rupee at its current level of 54 to 55 per dollar, Finance Minister Palaniappan Chidambaram said in a March 15 interview in New Delhi.

Policy Rates

Chidambaram also said the government may ease restrictions on foreign direct investment and that a narrower budget deficit has created space for a rate cut. India aims to achieve a fiscal gap of 4.8 percent of gross domestic product in the year through March 2014, compared with a projected 5.2 percent this year. Inflation continues to be “a worry,” he said, as consumer prices are rising almost 11 percent.

“We have argued on the government’s side that there is a case for lowering the policy rates,” Chidambaram said. “We express our view but the governor has to take the call.”

Reserve Bank Governor Duvvuri Subbarao will lower the benchmark repurchase rate to 7.50 percent from 7.75 percent, according to 30 of 35 economists in a Bloomberg survey. Five predict no change. The finance ministry will borrow 3.49 trillion rupees, or 58 percent of its borrowing target for the year starting April 1, in the first six months, Economic Affairs Secretary Arvind Mayaram said in New Delhi today after the market had shut. The government will open the fiscal year with a cash balance of 800 billion rupees, he said.

The yield on the 8.15 percent notes due June 2022 rose two basis points to 7.88 percent, according to the central bank’s trading system, as traders awaited the borrowing schedule.

Cyprus Concern

About 4 percent, or $6.8 billion, of foreign investment to India in the 12 years through December came through Cyprus, government data show. The data lists Cyprus as the route for the seventh-largest fund flow into India, as Asia’s third-largest economy has tax treaties with the island, Mauritius and Singapore, to eliminate duplicate levies on goods and capital.

European policy makers today signaled flexibility on the application of the bank tax. While demanding that the levy raise the targeted 5.8 billion euros ($7.5 billion), finance officials said easing the cost to smaller savers was up to Cyprus. A vote on the tax, needed to secure 10 billion euros in rescue loans, was delayed for a second day. Banks may not reopen tomorrow after a holiday today, state-run broadcaster CYBC reported.

Three-month onshore rupee forwards traded at 55.26 per dollar, compared with 55.10 on March 15, according to data compiled by Bloomberg. Offshore non-deliverable contracts were at 55.18 versus 55.09. Forwards are agreements to buy or sell assets at a set price and date. Non-deliverable contracts are settled in dollars.

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