RBI Should Allow More Rupee Volatility, Ex-Central Banker Says

A former Reserve Bank of India official said the authority should ease its tight grip on the rupee, a view that comes amid uncertainty over whether the new Governor will maintain his predecessor's policy of limiting currency swings. 

“You don't need to kill volatility to manage excessive volatility,” Viral Acharya, who was a deputy governor, said in an interview. The RBI must allow “some baseline volatility because it maintains a certain level of private hedging, which is important because the central bank can't do full absorption of risk.”

Acharya's comments come at a time when markets await clarity on whether new RBI Governor Sanjay Malhotra would continue with his predecessor's approach of intervening firmly in the currency market. The rupee was the most stable currency in emerging Asia last year despite hitting a series of record lows, making it a popular carry-trade currency given its high yield.

To be sure, the rupee has seen a rise in volatility in recent weeks, with the currency closing in on the 86-mark as pressure mounts from a strong dollar and a widening trade deficit.  

Acharya's tenure spanned January 2017 and July 2019, coinciding with Trump's first presidency. During the period which was marked by rising US interest rates and escalating US-China trade tensions, the RBI took a call that “we should not over-invest in defending the rupee at all costs,” he said.

“We realised that you have to have a depreciation that's partly going to absorb the macroeconomic pressure and essentially allow that margin of shock absorption in the economy,” said Acharya, who teaches at New York University's Stern School of Business.

The RBI's foreign-exchange reserves, which hit a record high of $705 billion in September, slid to an eight-month low of $640.3 billion as of Dec. 27.

“No matter what your stock of reserves is, if you lose a very big quantity of it in a short period, it doesn't send a good signal to the market,” Acharya said.