"The rupee's weakness initially began with risk-off sentiment as a result of the central bank's takeover of YES Bank, which raised fears among investors regarding the banking sector’s stability. The drop has since been sustained by investor concerns around the growing COVID-19 pandemic, which is still causing a massive sell-off in global risk assets," Fitch Solutions said.
In the short-term, the agency expects the ongoing global risk-off sentiment and likely steep monetary easing by the Reserve Bank of India to persistently pressurise the rupee. Fitch Solutions currently forecasts 175-basis point cut in the RBI repo rate to 3.40% by end of 2020-21 (Apr-Mar) from 5.15% at present. However, weakness in the rupee against the dollar in the short term would be partially counteracted by a likely sharp improvement in India's trade deficit due to the plunge in crude oil prices, it said. Fitch Solutions sees the rupee's overvaluation against the dollar and structurally higher domestic inflation to exert downside pressure on the currency over the long term. "The rupee's real effective exchange rate (REER) index is trading 5.2% above its 10-year average, which suggests that the currency is mildly overvalued," the agency said in a release. According to the latest RBI data, the rupee's real effective exchange rate against a basket of 36 currencies, in terms of trade-based weights, was 119.47 in February.