Why the Indian Rupee is Falling: The Hidden Role of Interest Rates and Inflation You Didn’t Know About

Discover how inflation and interest rates are silently shaping the rupee's future.

The value of the Indian Rupee (₹) is influenced by several factors, with two of the most important being interest rates and inflation. Let’s explore how these elements impact the rupee and why the rupee depreciates due to these factors. We’ll also discuss how a rate cut in the U.S. affects the rupee.

Interest Rates and the Rupee

Interest rates set by the Reserve Bank of India (RBI) play a significant role in determining the attractiveness of Indian investments to foreign investors.

Higher Interest Rates: When RBI raises interest rates, it increases the returns on investments like bonds and savings in India. This makes Indian assets more appealing to foreign investors, leading to more demand for the rupee, which strengthens its value.

Lower Interest Rates: On the other hand, if RBI reduces interest rates, foreign investors may seek better returns elsewhere. As a result, the demand for the rupee decreases, causing it to weaken.

Inflation and the Rupee

Inflation refers to the rise in the prices of goods and services over time. When inflation in India is higher than in other countries, it leads to a weaker rupee.

Why does this happen? Higher inflation erodes the purchasing power of the rupee, making it less valuable. As a result, foreign investors are less likely to invest in India’s assets, leading to a reduced demand for the rupee and a depreciation in its value.

U.S. Rate Cuts and Their Impact on the Rupee

A rate cut by the U.S. Federal Reserve can also influence the Indian Rupee.

When the U.S. cuts interest rates, it reduces the returns on U.S. investments, making other markets, like India, more attractive. This can lead to an inflow of dollars into India, increasing demand for the rupee and thus strengthening it.

However, if India also cuts interest rates or faces higher inflation, the rupee may still depreciate, even if the U.S. cuts rates.

Conclusion

The value of the rupee depends on a mix of domestic factors, such as interest rates and inflation, along with global conditions. A strong rupee requires careful balancing of these elements. While a U.S. rate cut can sometimes help support the rupee, India’s own economic policies are key in determining its long-term strength.