- One of the key factors contributing to the decline in the value of the rupee against the US dollar is the tightening yield spread between the 10-year India government bond and the US government bond.
- The yield on a 10 year Indian Government bonds is now only 295 basis points higher than that of US 10 year treasury bonds, which happens to be the lowest since Jan 2007. Lower spread means – lower incentive for foreign investors who invest in rupee assets. This means it adversely affects foreign capital inflows into India and the weightage goes with the Rupee-Dollar exchange rate.
- Just to compare, we can see from the past that the yield spread was 4% or 400 basis points at the end of August 2022 and it was on an average around 595 basis points in the last ten years. The benchmark bond yields in India is just 6 basis points in the last 12 months from 7.19% at the end of Aug 2022 to 7.25% now. During the same period, the yield on a ten year old US Government bonds was more by 111 basis points from 3.19% to 4.3% now, as per revelations of Bloomberg data.
- Normally the yields in emerging markets like Indian markets are higher than in the US which compensates the foreign investors for the higher macroeconomic and political risks which in-turn is associated with investment in the emerging markets. Thus we have been seeing a high positive co-relation between the yield spread in 10 year India and US treasury bond rupee-dollar exchange rate.
- We further see that Rupee has steadility lost 45% of its value against the US dollar since beginning of 2011. During the same period, the yield spread was down by 185 basis points or around 38% from 4.79% in Jan 2011 to 2.95% as of now. In the same peirod the INR/USD exchange rate is down from $2.18 per Rs. 100 to $1.2 per Rs. 100 now.
- During 2003 and 2007 rupee had appreciation and the yield spread between India and US bond yields was up nearly 200 basis points ie., from 2% in April 2003 to 4% in Jan 2007. Also we saw an appreciation in rupee against USD in 2009 and 2010. We saw a steady depreciation in rupee value since middle of 2011 along with a decline in the bond yield spread between India and US.
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