India’s Rupee Drops After RBI Unexpectedly Keeps Rates Unchanged

India’s rupee weakened after the central bank unexpectedly refrained from raising interest rates.

The Reserve Bank of India left the repurchase rate at 7.75 percent, a move predicted by only five of 31 economists surveyed by Bloomberg. The rest had forecast an increase to 8 percent after Governor Raghuram Rajan, who boosted borrowing costs twice since taking office in September, said on Dec. 12 that the monetary authority is “very uncomfortable” with the current level of inflation.

The rupee dropped 0.1 percent to 62.1050 per dollar in Mumbai, after rising as much as 0.4 percent earlier, according to prices from local banks compiled by Bloomberg. The currency has gained 0.6 percent this month and has rebounded from a record low of 68.845 touched Aug. 28.

“To me, Rajan has lost a lot of his credibility,” said Dariusz Kowalczyk, a strategist at Credit Agricole CIB in Hong Kong. “His credibility has allowed the rupee to move from around 69 to 61 and now that the action is inconsistent with last week’s comments I think the rupee will come under downward pressure in the near term.”

One-month implied volatility in the rupee, a gauge of expected moves in the exchange rate used to price options, fell eight basis points, or 0.08 percentage point, to 11.30 percent.

India’s wholesale prices rose in November at the fastest pace in 14 months and consumer prices gained the most in data going back to January 2012, official figures showed in the past week. A separate report showed industrial production contracted in October by more than economists predicted.

Close Decision

Indications that vegetable prices may fall, combined with a more stable exchange rate and lag effects from the previous rate increases give reason to hold the rate even though inflation is “too high,” the central bank said in a statement today. The RBI will act, possibly between policy meetings, if inflation doesn’t ease, it said.

“The policy decision is a close one,” the RBI said. “Given the wide bands of uncertainty surrounding the short-term path of inflation from its high current levels, and given the weak state of the economy, the inadvisability of overly reactive policy action, as well as the long lags with which monetary policy works, there is merit in waiting for more data to reduce uncertainty.”

The Federal Reserve concludes a two-day meeting today, where the U.S. monetary authority will decide whether to reduce its $85 billion of monthly bond purchases.

Fed Outlook

The buying of Treasuries by the Fed will be held at $45 billion a month, according to the median of 67 economists’ estimates compiled by Bloomberg. Mortgage-backed security purchases will also be left unchanged at $40 billion, the survey showed. About 34 percent of economists surveyed by Bloomberg Dec. 6 predicted that the Fed will start paring bond buying this month, up from 17 percent in a Nov. 8 poll.

Three-month offshore non-deliverable rupee forwards fell 0.1 percent to 63.17 per dollar, according to data compiled by Bloomberg. 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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