India Rupee Drops to Record as Fed Minutes Signal Stimulus Taper

India’s rupee slumped to an all-time low after Federal Reserve minutes showed the U.S. is getting closer to reducing stimulus that has fueled demand for emerging-market assets.

Fed policy makers were “broadly comfortable” with Chairman Ben S. Bernanke’s plan to start reducing bond buying later this year if the world’s largest economy improves, with a few saying tapering might be needed soon, according to the minutes of their July meeting released yesterday. Global funds have cut holdings of Indian debt by $10.1 billion since Bernanke first flagged the paring on May 22, leaving the rupee vulnerable to the nation’s current-account deficit.

“Some of the reasons for the rupee’s fall are out of India’s control, which is probably why policy makers have stepped back a bit and let the rupee find it’s own equilibrium,” said Jonathan Cavenagh, a strategist at Westpac Banking Corp. in Singapore. “The longer-term issue is that India needs to suppress its current-account deficit, and that’s something policy makers should focus on by encouraging exports and investment into key sectors like retail and infrastructure.”

The rupee weakened 0.9 percent to 64.63 per dollar in Mumbai, according to prices from local banks compiled by Bloomberg. It touched a record low of 65.56 earlier. The central bank probably sold dollars, according to two traders with knowledge of the matter, who asked not to be named as the information isn’t public. The rupee could drop further to 68 or even 70 by next week, Westpac predicts.

One-month implied volatility in the rupee, a measure of expected moves in the exchange rate used to price options, rose 141 basis points, or 1.41 percentage point, to 16.99 percent.

Buying Bonds

The Reserve Bank of India said Aug. 20 it will start buying government debt to pump funds into markets and consider reducing weekly sales of cash-management bills to rein in a surge in bond yields that threatened the economy. The central bank engineered a cash crunch in Asia’s third-largest economy last month to shore up the rupee.

The RBI will buy 80 billion rupees ($1.2 billion) of bonds through open-market operations tomorrow and “thereafter calibrate them both in terms of quantum and frequency” based on market conditions, it said in the Aug. 20 statement. Sales of cash-management bills will be adjusted going forward, “including scaling it down as may be necessary,” the monetary authority said.

“The Reserve Bank of India has begun a gradual reversal of the liquidity tightening since mid-July,” analysts at Barclays Plc including New York-based Joseph Abate wrote in a research report yesterday. “The measures triggered in multiple stages since July 15 were unduly harsh on market liquidity and the interest-rate spectrum, and ultimately proved counter-productive for the rupee.”

Three-month onshore rupee forwards fell 0.7 percent to 66.34 per dollar, data compiled by Bloomberg show. Offshore non-deliverable contracts dropped 0.8 percent to 66.74. 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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