We are living through an unusually interesting phase in macroeconomic policy, where India and the global economy are sending sharply contrasting signals. Domestically, there have been three encouraging developments in quick succession.
First, monetary and fiscal policies appear to be moving in a coordinated direction, with a clear objective of increasing foreign capital inflows and easing external sector pressure, and arresting excessive rupee depreciation with a comprehensive set of measures announced on last Friday.
Second, the revised GDP data has delivered a positive surprise, with Q4 FY26 growth at 7.8% and full-year FY26 growth at 7.7% — much higher than any market estimates.
Third, the external sector has surprised positively, with India recording a current account surplus of 0.7% of GDP in Q4 FY26 owing to higher personal remittances. Remittances for deposits from abroad have grown by ~25% year-on-year.
These developments together suggest that India’s macroeconomic fundamentals are much stronger and the economy is more resilient than what the recent pressure on the rupee may have implied.
The policy measures announced to attract foreign currency inflows are particularly important in this context. The foreign currency non-resident (bank) or FCNR(B) window is expected to bring in around $40-45 billion of fresh foreign currency deposits into the banking system. In addition, the external commercial borrowings/overseas foreign currency borrowings swap window could potentially bring in another $15-20 billion of dollar supply.
These measures may result in total foreign currency inflows of around $55-65 billion. This is not a small intervention. At a time when emerging market currencies have been under pressure, a dollar inflow of this size can materially alter market expectations, improve foreign exchange liquidity, and reduce the perception of one-way pressure on the rupee.
The most direct implication of these measures will be on the rupee exchange rate. While it is always difficult to forecast a precise exchange rate level, the combination of stronger external sector data, renewed dollar inflows, and policy support should reduce depreciation pressure. Under reasonable assumptions, the rupee could gradually appreciate towards the 92-93 per dollar range.
The second major implication of the policy package will be felt in the banking sector. The expected $55-65 billion of capital inflows would translate into roughly at least Rs 4.5 lakh crore of additional deposit resources at current exchange rates. This will help banks at a time when credit growth has been significantly running ahead of deposit growth. Deposit growth for FY27 could move towards the 15% range against the potential credit growth of around 16%. The credit deposit gap could narrow to less than 200 basis points (bps) against a peak of 670 bps in FY24 after adjusting for regulatory dispensations.
This has important implications for the term structure of interest rates. A large addition to deposit resources will eliminate the intensity of competition for domestic deposits and thus deposit rates might even witness a decline.
In contrast, the RBI might face a policy dilemma of a tightening cycle amid rising inflation against the avalanche of liquidity. It may have to manage inflation expectations, currency stability, and liquidity conditions simultaneously without relying on a single policy instrument. Intriguingly, any such policy tightening cycle is completely incongruent with a deposit rate cut/status quo cycle. With the monsoon onset being one of the weakest in history (a 26% cumulative shortfall till date), growth considerations might take centre stage. The IMD forecast of 90% rainfall is the lowest since 2001. Hence, talks of a rate hike is premature and out of context at this point.
The other option in this case is the RBI reversing the policy stance of adequate liquidity resorting to sell buy swap transactions/open market operation sales to suck out liquidity. But will that be a feasible option, as it will result in hardening of interest rates, especially when we are facing the weakest monsoon perhaps in decades? This also could result in financial instability when global economy faces renewed uncertainty.
The global economic scenario is complicated. The US-Iran conflict has flared up again. The US is facing a contrasting mix of strong labour-market data and renewed inflation concerns. Its economy added far more jobs than market expectations, while the unemployment rate remained steady at 4.3% in May. At the same time, US inflation rose to 4.2% in May (the highest in nearly three years) largely because of energy-price pressures. This has revived market concerns about the possibility of rates remaining higher for longer, or even the risk of a further tightening bias by the Federal Reserve if inflation persists.
Financial markets have reacted to this uncertainty. Technology- and AI-linked equities, which had earlier benefitted from expectations of easier monetary policy and abundant liquidity, have become more vulnerable to corrections as US yields remain elevated. Metal prices and other global commodities are also adjusting much lower to the risk of persistent inflation and tighter financial conditions. It is now entirely possible that once US growth falters, the Fed may chip in with liquidity bolstering measures to support growth that might reverse current market moves.
History shows that during the earlier FCNR(B) mobilisation episode in 2013, domestic interest rates moved lower over the following years, with policy rates declining from elevated levels in early 2014 at 8% to 6% by August 2017 as oil prices crashed. While the current context is different, the broad lesson remains relevant: credible foreign currency mobilisation can curb external vulnerability, improve confidence, and create space for domestic financial conditions to at least ease over time.
Finally, a word of caution. At this juncture, the central bank should continue to adopt a more forceful and unambiguous intervention strategy to arrest any dramatic fall in rupee value as a powerful signalling move, as the rupee has continued to depreciate even after the measures were announced. In the current environment, a passive approach could prove costly. Besides, it is important that the RBI looks through words of wisdom from the market and noted economists, such as the rupee being allowed to touch 100. We must appreciate that pandering to the whims of markets and or comments, often called “Greenspan Put”, allows the market players to dictate terms to the central bank by taking positions to cater to their own interest.
Disclaimer: The views expressed are the author’s own and do not reflect the official policy or position of Financial Express.