Boosting the Indian Rupee: Strategies for Strengthening Currency Without Raising Interest Rates

Since January 2025, the Indian Rupee (INR) has depreciated by approximately 9%, positioning it as one of the weaker currencies in Asia, particularly evident in May 2026 when it hit 96.96 against the US dollar. Several factors have contributed to this decline, including high equity valuations, India’s limited engagement in the artificial intelligence sector, tariff challenges, uncertainty surrounding the implications of agentic AI on its $160 billion software exports, and elevated energy prices due to geopolitical tensions. Additionally, subdued foreign direct investment (FDI) inflows have compounded these issues, while interest rate differentials with the US have driven increased hedging by importers, contrasting with reduced actions taken by exporters. Notably, foreign portfolio investors (FPIs) withdrew approximately $30 billion from Indian equity markets recently, adding to last year’s outflows of nearly $19 billion.

The Reserve Bank of India’s (RBI) foreign reserves currently stand at around $685 billion. However, after accounting for foreign exchange (FX) interventions and gold valuation, the usable reserves diminish to approximately $460 billion. In response to the ongoing currency challenges, the Government of India (GOI) and RBI have implemented several measures designed to attract capital inflows. These initiatives include the removal of withholding taxes and capital gains taxes on government bonds, assuming the full hedging cost for incremental Foreign Currency Non-Resident (FCNR) deposits, and the expansion of bonds eligible for investment through the Fully Accessible Route for FPIs. Collectively, these measures are projected to facilitate approximately $70 billion in capital inflows.

Analyzing historical parallels, a similar FCNR scheme was introduced in September 2013, triggering a substantial appreciation of the INR from 65.70 to 59.10 against the dollar, largely due to anticipations of stable governance. The recent FCNR announcement comes as the USD/INR rate is at 95.70, with the Real Effective Exchange Rate suggesting about 10% undervaluation. The expected reversal of the imbalance between importer leads and exporter lags—currently estimated at $185 billion—could serve as a key driver of appreciation for the INR. Nevertheless, the coordination of these financial dynamics will be critical, especially in light of RBI’s significant short forward book, which stands at approximately $100 billion.

To address the imbalances of imported leads and exported lags, the RBI might consider implementing a Cash Reserve Ratio (CRR) specifically for banks facilitating foreign currency purchases by importers. This would effectively increase forward premiums, potentially stabilizing the forward market while reducing RBI’s short position. As fluctuations in the INR remain a crucial element for financial stability, the proposed measures could pave the way for an improvement in the currency’s valuation, contingent upon successful navigation of the ongoing market dynamics.

Source: The Economic Times

(Expert Note: This report was prepared by the Wealthova team.)