Rupee weakness against the dollar is due to trade pressures and RBI policies. – Chinmaya IAS Academy

Context:

The Indian rupee has weakened against the US dollar over the past year despite India’s strong macroeconomic fundamentals.
Factors such as trade headwinds, US tariff policies, investor sentiment, and RBI’s forex interventions have played a major role in driving exchange rate fluctuations.
The issue highlights the complex interaction between domestic economic strength and global financial pressures.

Key Highlights:

Recent RBI Intervention

The Reserve Bank of India (RBI) intervened by selling US dollars in the forex market.
This led to the rupee strengthening by nearly 1% in a single day, showing RBI’s ability to smooth volatility.

Rupee Depreciation Despite Strong Fundamentals

Over the last year, the rupee has depreciated by around 6%, even though:
- India remains the fastest-growing major economy
- Inflation has been relatively controlled
This suggests that currency value depends not only on growth but also on external and financial factors.

Trade Weakness and US Tariffs

Trade pressures have contributed significantly to rupee weakness.
High US tariffs on Indian goods have:
- Reduced export competitiveness
- Worsened trade uncertainty
- Lowered demand for the rupee in global markets

Investor Confidence and Equity Performance

Indian equity markets have underperformed compared to peers.
The Sensex rose only 8% between Dec 2024 and Dec 2025, indicating investor concerns over:
- High valuations
- Profitability outlook
- Global risk sentiment
Weak portfolio flows reduce foreign currency inflows, adding pressure on the rupee.

Key Drivers Identified by Bank of Baroda Study
A BoB study highlighted major determinants of rupee movement:

Spot vs Forward Market Interventions

RBI’s forward market interventions are often more effective than spot interventions.
Dollar buying/selling also affects:
- Domestic liquidity
- Interest rates
- Currency expectations

Limited Role of Trade Deficit in Daily Fluctuations

Surprisingly, the trade deficit has little immediate impact on rupee volatility because:
- Trade data may not match real-time currency flows
- Capital flows dominate short-term exchange rate movements

Beyond Economics: Role of Uncertainty

Relevant Prelims Points:

Exchange Rate: Price of one currency in terms of another.
Trade Deficit: When imports exceed exports.
Foreign Portfolio Investment (FPI): Investment by foreigners in domestic financial assets like stocks and bonds.
Forex Intervention: Central bank buying/selling foreign currency to stabilize exchange rates.

Causes + Government Role

Benefits + Challenges

Benefits of intervention: Prevents excessive depreciation and imported inflation.
Challenges: Sustained intervention can deplete reserves and distort markets.

Impact

Rupee weakness raises import costs (oil, fertilizers) and may increase inflationary pressures.
Also affects investor sentiment and India’s external stability.

Relevant Mains Points:

Macroeconomic and Policy Dimensions

Currency depreciation reflects interplay of:
- Trade conditions
- Capital inflows
- Central bank actions
- Global financial environment

Trade and International Relations Angle

RBI’s Role in Exchange Rate Management

RBI follows a managed float regime, intervening to curb volatility rather than fix rates.
Forward interventions help influence expectations without immediate reserve loss.

Way Forward

Strengthen export competitiveness and diversify trade partners.
Maintain adequate forex reserves for stability.
Improve investor confidence through predictable policies and growth in manufacturing.
Balance intervention with long-term market-determined exchange rate adjustment.

UPSC Relevance (GS-wise):