Analyzing India's Exchange Rate Regime

We analyze India’s exchange rate regime through the prism of exchange market pressure. We estimate the various regimes that India’s de facto exchange rate has been through during the period 2000 to 2020. We find four specific regimes of the Indian rupee differentiated by the degree of flexibility of the exchange rate. We document the manner in which the Exchange Market Pressure (EMP) Index in India has either been resisted through foreign exchange market intervention, or relieved through exchange rate change, across these four de facto exchange rate regimes. In particular, we find that after the 2008 Global Financial Crisis, the rupee-dollar exchange rate was relatively more flexible and the share of the exchange rate in EMP absorption was the highest. After 2013, there was a change in the way the EMP was absorbed. The exchange rate was actively managed using spot as well as forward market intervention. We also find that the response of the Reserve Bank of India (RBI) to EMP has been asymmetric. When there has been pressure to appreciate, the RBI has typically responded by purchasing reserves. On the other hand, during the periods in which there has been pressure to depreciate, only a tiny fraction of the reserves were used for resisting the pressure. Such pressure is absorbed by rupee depreciation.