With the rupee under pressure amid geopolitical tensions and slowing foreign capital inflows, policymakers face difficult choices on managing the balance of payments, exchange rate stability, and economic growth.
June 2, 2026 22:25 IST
As Mint Street grapples with a falling rupee and the urgency to stabilise it following the extending West Asian war, many experts reckon that the seeds for the current crisis were sown much before. In January 2025, we were among the earliest to flag the worrying trend of slowing inflows on the capital account side, particularly the sharp deceleration in net FDI — this was making exchange rate stabilisation harder for the RBI despite massive interventions in both spot and forward markets.
The pattern has not significantly reversed since, raising the spectre of speculative trading in the forex market as the prospect of current account deficit (CAD) widening looms large. The RBI has been quick to intervene, as it often does, restricting derivatives’ market activities.
Market participants, domestic and foreign, were pained by the central bank’s actions and have been wondering since what more could come. The government was equally quick to raise gold and silver import duties, which had been very effective in narrowing the CAD in the 2013 taper-tantrum episode.
But financial dailies are abuzz with policy speculation, again reverting to the 2013 playbook for clues — restrict capital outflow, raise dollar deposits to boost FX reserves, and increase the policy rate to stabilise the currency.
But the central bank isn’t rushing through any capital account measures — it feels the economy’s fundamentals are strong, the rupee is not overvalued, and FX reserves are enough to contain short-run volatility. And raising the interest rate is the Monetary Policy Committee’s call.
Stuck in the swamp
But the rupee’s continuous downslide is unnerving, testing the market limen as the elephant appears to be stumbling once again. Underneath the demeanour of apparent calm, policymakers appear to be in a quagmire, unable to read the pulse of the crisis.
Is it a short-term balance-of-payments (BoP) problem that will subside once the war ends? Will the foreign portfolio investors (FPIs) return no sooner than the AI bubble bursts? And will the CAD normalise once the trade agreements produce dividend?
Or is it more structural as many experts insist, seeking decisive reform interventions? There seems to be an air of exasperation as in the last 12 years, several good reforms — with evidently acknowledged positive benefits — were introduced. Sure, more could be done but that would require time, which is critical as the war persists.
Should the RBI quickly raise NRI deposits, say $50 billion, to buy some time? In 2013, banks helped mobilise $34 billion to clean up the RBI’s $32.6-billion FX forward sales book, its future liabilities, and steady the rupee.
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In contrast, the central bank’s position looks more fragile this time than over October 2024 to February 2025. Its forward book swelled sharply to $104 billion in March 2026, including $30 billion from three-year buy/sell swap auctions, which are effectively forex borrowings under the cover of liquidity support measure.
But all this could not contain the rupee’s slide. A persistent BoP deficit means that any cushion from additional borrowing would come at steep costs, compound future FX liabilities, and dampen the medium-term outlook. Some restrictions on domestic capital outflow could help but that risks unwelcome signalling to foreign investors.
Need strategic belt tightening
It is debatable if the rupee is undervalued and will autocorrect once the war ends. Although India’s CAD has been moderate for several years, the persistent structural weakness in the capital account creates a new perspective on how one should look at currency valuation.
More importantly, several global assessments hold that even were the war to end soon, production and supply disruptions will take many more months to normalise.
We certainly support the idea that the rupee must find its own value, with the RBI ensuring an orderly depreciation, although there’s always an overshooting risk, pressing the panic button. To restore macroeconomic balance, therefore, the way forward is to slow imports at a much faster pace than only currency weakening can deliver.
In our judgement, we’ve reached the time when prudence calls for some degree of strategic demand compression to support rupee stabilisation. The policy toolkit should carefully examine the balance sheets of households, corporates, and governments (Centre and states) to find headroom and mark vulnerabilities.
Currently, it is the household balance sheets that appear to be having the least space and most susceptibility to price and interest rate increases — though raising the GST rate for high-end imported luxury goods would be appropriate.
The government has been careful to calibrate petroleum-gas price increases so far; more hikes will be needed for targeted volume compression. But excessive passthrough runs the risk of stoking inflation and forcing a monetary policy reset, which would result in generalised demand compression.
Among businesses, the micro, small, and medium enterprises are most exposed to raised costs and supply shortages, and on the credit-guarantee lifeline. Equally, some big corporates have high forex exposure; these are susceptible if unhedged. Some others are holding piles of cash but not spending.
Perhaps this is the time to expedite asset monetisation, even privatisation, and barter this cash for publicly owned assets.
Rationalisation of wasteful government revenue expenditure is always welcome. But this isn’t a good time to cut subsidies or any other social- or income-support spending although efficient targeting is needed.
Therefore, consider slowing down capex, especially projects with high import intensity. Some degree of fiscal compression may sound bitter and result in growth sacrifice. But it will send the right signals.
It has been three months since the war started, exposing the Indian economy’s faultline of being unable to retain and attract foreign investment. It has morphed into a BoP crisis, subjecting the rupee to speculative attack. The government and the RBI have waited too long.
It would be prudent to judge the present impasse as “crisis-like”, if not a full-blown crisis per se. The currency needs to be stabilised sooner to rebuild confidence in the economy and redraw a road map for long-term structural adjustment to help the elephant resume its journey towards Viksit Bharat.
The writer is senior fellow, Centre for Social and Economic Progress
Disclaimer: The views expressed are the author’s own and do not reflect the official policy or position of Financial Express.
This article was first uploaded on June two, twenty twenty-six, at twenty-five minutes past ten in the night.
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