Photographer: Manjunath Kiran/AFP via Getty Images

Rupee Testing Record Adds to Inflation Risk for Rajan Successor

  • Currency just 1.3 percent shy of all-time low seen in 2013
  • Mizuho sees decline to 70 per dollar in next three months

The job of Reserve Bank of India Governor Raghuram Rajan’s yet-to-be-named successor just got tougher.

India’s rupee tumbled the most in 10 months on Friday as the U.K. voted to quit the European Union. On Monday, the currency was just 1.3 percent shy of an all-time low of 68.845 per dollar hit in 2013. Standard Chartered Plc and Mizuho Bank Ltd. are predicting more losses as Brexit disrupts the EU economy and spurs a flight to haven assets from emerging markets.

Rajan will hand over the reins in September with inflation accelerating to a 21-month high in May, foreign holdings of local-currency bonds dropping at the fastest pace since 2013, and the Federal Reserve likely to raise interest rates. His successor will need to fend off pressure from Hindu hardliners in the ruling party who accused Rajan of keeping interest rates unnecessarily high.

“The challenge for the new RBI chief is two-fold: first to anchor inflation and second to stabilize the rupee,” said Vishnu Varathan, a senior economist in Singapore at Mizuho Bank Ltd. “Keeping both inflation and rupee bears on a leash will be the two-fold problem. We are looking for rupee slippage to test upwards of 70 a dollar in the next three months.”

Consumer prices rose 5.76 percent last month from a year earlier, the most since August 2014, just as a looming pay rise for government employees and rising oil costs threaten to exacerbate matters. Investors are watching for signs that the inflation-targeting regime spearheaded by Rajan is strong enough to outlast him. In an impassioned defense of his policies last week, he called the battle to stem price gains “revolutionary" and urged his successor to stay the course.

The rupee was little changed at 67.9725 a dollar on Monday, after weakening 1.1 percent on Friday, when it also touched its lowest level since March 1. Divya Devesh, a Singapore-based foreign-exchange strategist at Standard Chartered, said the currency “is likely to test new all-time lows” in the coming weeks given risks regarding inflation, Brexit and the successor to Rajan.

India’s currency is already Asia’s worst-performer this year, having weakened 2.7 percent. A gauge of its one-month implied volatility, used to price options, has surged 132 basis points since the end of April to 7.17 percent, data compiled by Bloomberg show.

Foreign holdings of local government and corporate debt have dropped 126 billion rupees ($1.9 billion) since the end of April, poised for the biggest two-month decline since November 2013, National Securities Depository Ltd. data show.

Nomura Holdings Inc. on Friday cut its year-end rupee forecast to 69.5 a dollar from 67.6 earlier.

The U.K. voting to leave the EU presents “a negative shock” for Asian currencies, Nomura strategists including Singapore-based Craig Chan wrote in a report. “The negative risk backdrop and weak equities should increase depreciation risks for” the South Korean won, Taiwan’s dollar and the rupee, they wrote.

History shows the rupee tends to underperform in periods of weak global risk appetite. The currency sank 2.4 percent in January, the most in Asia, when concern over slowing global growth and China’s weakening of the yuan roiled markets worldwide. Its plunge to a record low came during the taper tantrum in August 2013. Overseas holdings of Indian debt fell by 747 billion rupees between June and November that year.

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