rupee value: Cost of imports up; RBI likely to turn cautious on Rupee

After remaining in the negative zone for several months, imported inflation or cost of imports has been slowly edging up since the beginning of this financial year. The contribution of imported inflation in the Consumer Price Index (CPI) inflation has increased by 0.5 percentage points since April, showed an analysis by the RBI. Strong foreign portfolio investment (FPI) inflows and the RBI’s currency management could, however, help bolster the value of the rupee which in turn would help rein in such inflation, said experts.

Of the 3.7% CPI headline inflation in August, 3.5% was on account of domestic factors, while the balance was due to imported factors. “The contribution of imported components to headline inflation turned positive from April 2024 and increased gradually to 0.5 percentage points by August 2024,” the RBI said in its latest monetary policy report.

Significantly, the contribution of imported inflation to overall CPI inflation was negative since December 2022.

“This (rise in contribution of imported inflation) will continue as global prices have started rising. It will impact core inflation,” said Madan Sabnavis. chief economist at Bank of Baroda.

Global commodities that drive domestic prices or the items that drive imported inflation include petroleum products, coal, electronic goods, gold, silver, chemical products, metal products, textiles, cereals, milk products and vegetable oils. These together have a weight of 36.4% in the CPI basket, the RBI said in its latest monetary policy report.
Imported inflation tends to have an upward impact on the overall CPI inflation when the domestic currency tends to weaken against the US dollar. Keeping this in mind, the central bank is likely to be more cautious in influencing the level of the rupee and ensure that it does not adversely hurt the import prices in local currency.”The Reserve Bank will be alert on currency as imports will increase. But FPI should steady the rupee,” Sabnavis said.

The rupee is overvalued by 4.7% relative to its intrinsic worth, as of September-end, in terms of real effective exchange rate, showed the latest RBI data. The 40 currency trade weighted real effective exchange rate (REER) index is at 104.7 as of September 27, as per the data, while the six currency trade weighted REER index is at 101.7 implying the rupee is overvalued by 1.7% here.