The Depreciating Rupee: A Growing Concern for Indian Companies
The depreciating rupee is beginning to affect Indian companies that have engaged in foreign currency borrowings, adding to worries during a period when trade conflicts and an economic slowdown are overshadowing global growth expectations.
The 5 percent fall in the rupee since April 2024 correspondingly raises the rupee-denominated cost of debt repayment for firms that depend on external commercial borrowings (ECBs), putting pressure on the corporate sector.
More difficulties may arise as there are evident signals from the RBI indicating that it may support a gradual depreciation of the rupee in alignment with other currencies.
Last week, RBI Governor Sanjay Malhotra mentioned that the RBI’s actions in the foreign exchange market aim to mitigate excessive and disruptive fluctuations rather than aiming for a specific exchange rate level or range.
The Shift in Borrowing Costs Due to US Interest Rate Hikes
Back in 2020, when the interest rate gap between the US and India was nearly 5 percent, borrowing from abroad was more appealing than borrowing in rupees.
However, this is no longer the case. With the U.S. Federal Reserve increasing interest rates and the dollar gaining strength, this previously favorable position diminished, leading to challenges for Indian firms that did not hedge against this risk.
As the rupee has fallen by 3.2 percent over the past three months, a company that borrowed Rs 2,000 crore abroad—mostly without hedging—will feel the pressure significantly.
If this company’s loan is five years old, the burden from depreciation will increase by over 22 percent in addition to an interest rate of 6.6-7 percent per annum.
The rupee declined by more than 22.36 percent from 71.51 against the dollar over the last five years. This indicates that the additional expenditure resulting from rupee depreciation will follow the same percentage.
The impact on businesses could be considerable, as there were a total of 1,221 ECB registrations worth $49.2 billion in 2023-24 compared to 1,102 entities that registered ECBs valued at $26.62 billion in the preceding year, according to the RBI.
Although 70 percent of the ECBs raised in 2023-24 were adequately hedged through explicit hedging, rupee-denominated loans, or loans from foreign parents, mitigating the effects of external shocks, the remaining 30 percent will still feel the impact of depreciation.
Challenges for Companies Without Hedging
“Corporates that have taken forex loans without hedging the risk will face additional costs corresponding to the extent of rupee depreciation, making forex loans significantly more expensive than borrowing in rupees.”
“Furthermore, a reduced likelihood of interest rate cuts by the US Federal Reserve will keep the interest rate benchmark elevated,” said Dipti Chitale, Director at Mecklai Financial, a firm specialising in treasury risk management services.
The Indian rupee dropped by over 20 percent in the past five years, resulting in a varied impact on businesses. Exporters have mostly remained robust, benefiting from increased revenues in rupees.
In addition, with the forward premium decreasing from 4.5 percent to 2.5 percent due to a narrowed interest rate gap, many exporters have opted for minimal hedging, resulting in lower hedge ratios, according to Pabari.
Conversely, importers are encountering increasing difficulties. Most cover short-term liabilities for one to three months, and the steep decline in the rupee has drastically increased their import expenses, thereby squeezing profit margins.
Industries heavily reliant on imports, including oil and gas, electronics, and pharmaceuticals, are experiencing heightened cost pressures, which may ultimately be.