India's central bank has sold nearly $600 billion defending the rupee — and may still have to raise rates

In August, Reserve Bank of India Governor Sanjay Malhotra voted to leave the policy rate unchanged and retain a neutral stance. He offered no forward guidance, saying the outlook was “hazy” amid uncertainty over the south-west monsoon, El Niño, geopolitics and global trade policy.

That caution sits beside a large-scale defence of the rupee, which has weakened from 84 to roughly 96 against the dollar.

Since late 2024, the RBI has sold nearly $600 billion gross in the spot market. Its FY25 sales alone reached a record $398.7 billion gross. It has also moved beyond spot intervention, building a short forward position of $136.77 billion by end-July and borrowing $143.5 billion from NRI depositors on swaps.

The scale of those operations is set against sizeable reserves. India’s forex reserves reached an all-time peak of $785.7 billion in the week of September 4, following a one-week jump of $44.9 billion.

The interventions have costs that are less visible than spot sales. The RBI’s FY26 annual report carried a net unrealised loss of ₹43,403 crore on outstanding forwards. The interest-free swap subsidy is priced near 1.45% of the reserve stock over five years.

The central bank had previously operated a closely managed dollar-rupee exchange rate from September 1, 2023 to December 16, 2024, when volatility fell to near-zero levels. That policy was never formally announced.

The underlying constraint is straightforward. No country can simultaneously maintain an open capital account, a managed exchange rate and an independent monetary policy. When a currency is managed, the central bank loses control over domestic interest rates.

For the RBI, that makes interest rates the next difficult part of the defence. The Monetary Policy Committee unanimously held the policy rate at 5.25 per cent in August. Malhotra said: “I would prefer to wait for more certainty to emerge on the inflation trajectory… the forecast and the likely levels to which inflation may normalise and settle, for any recalibration of the policy rate”.

Two weeks after that policy statement, the minutes of the Monetary Policy Committee meeting pointed to possible rate rises in the near future, driven by rising headline inflation and risks from food, fuel and other input prices. Malhotra said: “We also need to be watchful as the risks of higher food, fuel and other input prices translating into a broad-based increase in inflation and de-anchoring of expectations persist”.

His threshold for action was clear. “Any evidence of these risks materialising may need policy tightening,” Malhotra said.

The RBI had surplus liquidity of ₹9.7 trillion. Any move to tighter policy would matter to borrowers and businesses, while the currency’s level also bears on India’s approximately $135 billion oil bill and approximately $100 billion electronics import line.