The Indian rupee’s path against the US dollar is one of long-term appreciation as India builds increasingly strong services and goods export buffers to offset the country’s traditional current account deficit, said Patrick Law, head of Asia-Pacific fixed income, currencies, and commodities trading, at Bank of America. While a weaker Chinese yuan and the risk of US rates staying higher for longer pose risks for emerging market currencies, the rupee is “a very special case” because of India’s bullish outlook, Law tells Bhaskar Dutta. Edited excerpts:

Amid sharp swings in the US dollar and Asian currencies, the rupee continues to be stable. Have the fundamental drivers changed for the Indian currency?
I am very bullish on India. It’s not just about global bond index inclusion. It’s about the long-term prospects of the country and the economy, foreign inflows, and investment. India is definitely benefiting from the China-plus-one narrative.

Two, the expansion of the service industry is continuing. There’s a lot of talk about global capability centres, which is going to keep increasing. You think about this – India traditionally suffers from a current account deficit especially when oil prices rise. Now, over time, you will have the buffer of the services and also improvements in the goods export sector from some supply chain diversions. This can potentially create a very virtuous cycle for India. Keeping these factors in mind, the Indian rupee should be on a long-term appreciation trajectory.

Earlier bets of aggressive rate cuts in the US have been reversed as inflation remains volatile. What is the outlook for the dollar?
Three months have gone by, and the data really hasn’t cooperated even though from the FOMC (Federal Reserve’s monetary policy committee) meeting last week, it looks like a relatively dovish bias from the Fed.

If they really stick to the core PCE (personal consumption expenditure) argument, they can cut rates. But, at the same time, they cannot completely ignore the fact that the CPI (consumer price index) which the public follows is at a higher level. I do think that’s the main reason why they are waiting a little longer. Therefore, it’s harder to argue for the US dollar to weaken in a more material manner.

I think the markets are beginning to think about this. The dot plot still shows three cuts for 2024, but it’s only one dot away from changing it to two. Therefore, whether the Fed cuts in June is not a very sure thing.

If the US rates are not really coming down that much, then unlike previous expectations, we’re not going to get to a point where emerging markets become much more attractive for inflows.

How does the rupee stack up versus the Chinese yuan? We have recently seen significant volatility there.
If the RMB (Chinese yuan) stays weak, the other Asian currencies are also impacted. It will be much harder for the currencies in the region to strengthen – they will probably have to weaken.

India is a very special case because of the bullish outlook and the index inclusion.

I have also noticed that since the beginning of the year, there has been a lot of interest in buying Indian rupees, not against the US dollar but against some of the other Asian currencies, especially the RMB. The short RMB-long Indian rupee trade is one of the popular ones that people were participating in. I would watch out for that.

For this year, I do not expect the Indian rupee to break out from 81-85/$1. If it does get to 85/$1, the RBI would be very active.

What happens to emerging market currencies after Japan’s shift towards policy normalisation?
In my opinion, people should not be too bothered. However, we have to think about currencies or economies that have a similar or a competitive landscape as Japan. Japanese products are becoming cheaper and cheaper in USD terms. So, if you are selling to similar customers, exporting similar products, you have to think about that.

This is why we saw the North Asian currencies responding – the Korean won, the Taiwan dollar, even China, because some of the products they export are very similar.

In this region, clearly, I am in favour of the Indian rupee and the Singapore dollar. I do think that in this region, these two countries really stand out. The North Asian currencies will probably do a little worse. Japan, China, Taiwan…these are very low-yield currencies.