The drop in the Turkish Lira appears to have been the catalyst that has led to a route in EM currencies. This week, India’s rupee dropped to a record low against the greenback. While Turkey, and recently Argentina, have raised rates to fend off short-sellers, negative momentum continues to drive the Rupee lower against the U.S. dollar. The exchange rate gapped higher in the second week of August and continues to face downward pressure as investors exit riskier assets that are exposed in the forex market.
India Faces an Uphill Battle
India’s economic backdrop is troubling. The rise in oil prices in the beginning of the Q3, bloated India’s trade deficit which widened to 16.6 billion. This was the highest it’s been in the past 5-years. India complained to OPEC about oil production following President Trump’s move when he pulled the United States out of the Iran nuclear agreement. With sanctions on Iran expected to go into effect in November, India has significant concerns regarding oil prices. Surging import costs have made capital flows volatile. This in turn has generated volatility for the Rupee. The benefit could be if India invests more in manufacturing. A weaker currency will make Indian products more attractive to global consumers.
In addition, rising U.S. interest rates are taking their toll on EM equity markets. U.S. data continues to come in stronger than expected, including a robust retail sales report that showed that U.S. consumers are spending. The combination of tax breaks and regulatory reform has increased consumer sentiment. Central banks around the globe are now fixated on the Federal Reserve. Their next meeting is in September and they are widely expected to increase interest rates again by 25-basis points. Higher interest rates in the U.S. have historically been negative for riskier assets, especially EM equities and currencies.
Sharp Exits from Funds
There has been a sharp exit of EM funds by global investors which has reduced the demand for Indian equities. The lack of interest has reduced demand for the Rupee, which has also weighed on the currency. Additionally, the Reserve Bank of India, had accumulated reserves of more than $400 billion which should help the central bank defend its currency.
Bad Timing for Social Program
In the wake of a declining currency, India’s Prime Minister Narendra Modi has unveiled a healthcare plan to protect relatively poor families against catastrophes. The rollout of the plan by the Indian government is expected to begin in late September of 2018. The estimated costs of the program is 1.7 billion in the first two years of the health care scheme.
In an Independence Day speech, Modi said that India has made significant progress since he came to power and would continue to reform. Modi is prepared for a highly contested election and is attempting to frame himself as a champion of the people. He describes some of his major accomplishments as pushing through a service tax, reducing corruption and providing social amenities to the lower class of the Indian population.
