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The Rediff Business Special/Syed Firdaus Ashraf

Collateral damage

The undeclared war in Kargil may weaken the rupee further unless it ends soon.

In the last two months the rupee has fallen by 86 paise to the dollar, a fall of more than 2 per cent.

Ever since the air strikes in Kargil began on May 26, the rupee has fallen by 1.3 per cent to close at 43.31 to the dollar today.

The rupee's woes began when the All-India Anna Dravida Munnetra Kazhagam threatened to withdraw support to the coalition government led by Atal Bihari Vajpayee. The currency, which was quoting at Rs 42.40 at the beginning of April, depreciated rapidly to Rs 43 to the dollar after the government fell on April 17.

The situation improved in May when $405 million flowed into the debt and equity markets. And the rupee stabilised at Rs 42.70.

But the euphoria didn't last. On May 26, when the Indian Air Force began the air strikes in Kargil, Drass and Batalik, the rupee began depreciating again to touch the 43-mark.

Says C Girish, assistant vice-president, Mecklai Financial & Commercial Services Limited, "Everybody is worried. The situation must not turn into a full-scale war. If that happens the rupee will depreciate further unless the Reserve Bank of India intervenes."

Unfortunately, when the rupee was gaining ground last week, the statement of RBI Deputy Governor Jagdish Capoor caused a flutter in the market. Capoor said if the market wanted the rupee to be weakened, the RBI would stay away from it.

This resulted in a further weakening of the rupee by the weekend. Capoor later denied his statement, but by then the damage had been done.

Market observers believe the depreciation of the rupee has come at an unfortunate time when the economy had just begun picking up and was showing signs of recovery.

Says M V Subramaniam, senior dealer, Global Trust Bank, "Most importantly foreign institutional investors were showing confidence as there was a good inflow of dollars last month. The point to be noted is that the dollars were flowing in spite of the fact that the government had fallen."

"I feel the RBI must keep a close watch and intervene periodically if the rupee falls further," he added.

Another forex dealer noted, "The stabilisation of the rupee after the government fell was an important indicator for the Indian economy as for the first time it was felt that the economics had nothing to do with the politics. But the Kargil situation destroyed all that."

Commenting on the Kargil situation, he said, "No foreign investor would like to put his money in if it is imminent that the two countries are going to wage a war."

But Siripurapu, senior manager, ABN-Amro Bank, told Rediff On The NeT that there is no panic in the market compared to last year, and "the rupee has not fallen to that bad level".

Elaborating, he said, "Last year, after the economic sanctions were imposed by the US after the nuclear tests, the rupee fell by 1 per cent almost everyday to touch Rs 43.70, an all-time low. But this time if you compare the situation with last year, the rupee has fallen approximately 1 per cent a week. So I don't think there is panic in the market."

Interestingly, the RBI had played a crucial role in strengthening the rupee and keeping it at a reasonable level of stability after the sanctions. This time, however, the RBI hasn't yet intervened to stem the rupee's fall. Most forex dealers believe it is now up to the RBI to determine at what level to intercede and stabilise the currency.

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