India's central bank has tightened its money supply in an attempt to stabilize growth and strengthen the rupee, but the record deficit has fueled inflation and dragged down Indian stocks and exchange traded funds.
India's economy will likely slowdown if the rupee currency continues to devalue, writes Matt Phillips for Quartz.
The Indian rupee has weakened, exacerbating the drop in India-related ETFs - India ETFs track rupee-denominated equities, so a weaker rupee translates to an even lower return when converted over to the U.S. dollar. The WisdomTree Indian Rupee Fund (NYSEARCA:ICN) is down 14.8% year-to-date.
On Thursday, the rupee recovered from a record low of 68.85 per U.S. dollar Wednesday, when the currency posted its largest percentage fall in 18 years, Reuters reports.
According to the International Monetary Fund, around 60% of emerging market economies shrank after rapid devaluation in their domestic currency. India seems to be following this trend as growth for the year ended March was at its slowest pace in a decade.
The Reserve Bank of India increased interest rates in July to support the faltering rupee. However, the tighter monetary policy is doing more harm than good. BNP Paribas cut its growth projection to 3.7% from 5.2% for the 2013-14 fiscal year due to the higher interest rates, the Economic Times reports.
"The beatings will continue," BNP Paribas said in the Economic Times article. "RBI's quantitative tightening campaign, in our judgment, has been at best premature and, at worst, wholly injudicious."
The Indian economy is also fighting against a record current account deficit. The country is importing more than it exports - through imports, a country has to purchase goods using the foreign currency, which strengthens that foreign currency against the domestic currency.
"The only lasting solution to our external sector problem is to reduce the CAD (current account deficit) to its sustainable level," RBI Governor Duvvuri Subbarao said in the Reuters article. "Reducing the CAD requires structural solutions. RBI has very little policy space or instruments to deliver the needed structural solution. They fall within the ambit of the government."
The WisdomTree India Earnings ETF (NYSEARCA:EPI) is down 24.1% year-to-date.
Max Chen contributed to this article.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.