REFILE-UPDATE 1-India rupee sags to record low, RBI expected to stiffen defence
defence@ (Fixes typo in headline)
* Rupee hits record low at 61.5125
* More cash-draining steps from RBI expected
MUMBAI, Aug 6 (Reuters) - The Indian rupee fell to a record low on Tuesday, on what traders said was dollar demand from importers, raising prospects for the central bank to take fresh steps to bolster a currency that has lost 12.6 percent since the start of May.
The partially convertible rupee fell to 61.5125 to the dollar, smashing through a previous low of 61.21 hit on July 8, as investors worry that the government will struggle to implement measures to reduce a record-high current account gap.
Tuesday's 1 percent drop was the steepest among Asian currencies tracked by Reuters.
Several market watchers said further weakness is likely, as the Reserve Bank of India's earlier measures to defend the currency, built around squeezing rupee liquidity in the money market, have failed to stem the tide.
"I expect direct interventions and further measures which will only work to slow the trend, because reversal requires fundamental reforms that are unlikely to happen," Dariusz Kowalczyk, senior economist and strategist Credit Agricole In Hong Kong, told Reuters.
"I expect further depreciation in the rupee in the short run," Kowalczyk said.
At least, India's markets were unmoved by a flare up of violence in Kashmir, where five Indian soldiers were killed in an attack along the disputed border with Pakistan.
But, with a decline of 10.6 percent since the start of the year, the rupee is the worst performer in the region.
The Reserve Bank of India (RBI) unveiled dramatic measures on July 15 to prop up the rupee by raising short-term interest rates and draining market liquidity, but to little avail, with cash conditions failing to tighten significantly.
Government spending has surged in the last two weeks, with New Delhi exhausting existing cash balances and resorting to borrowing from the central bank, according to RBI data released each Friday, adding cash to the market.
Furthermore, the central bank is due to pay its annual dividend to the government, estimated at 330 billion rupees ($5.42 billion) this fiscal year, within the next week or two.
Prime Minister Manmohan Singh's weak coalition government, facing the prospect of gridlock in the monsoon parliament session that kicked off on Monday, has yet to announce substantial measures to attract rapid capital inflows, further denting the rupee's prospects.
As a result, analysts say the RBI is likely to have to step in again with stronger measures to drain cash.
Among potential steps is a hike in banks' cash reserve ratio , now at a record low 4 percent - a blunt monetary tool that would force lenders to deposit more cash with the central bank.
"Now they will probably have to bolster with more steps like lowering the borrowing cap (for banks from the central RBI) or a more direct liquidity removal. People are also getting a bit tired of no visible action from the government," said Abheek Barua, chief economist at HDFC Bank in Mumbai.
Easing cash conditions are reflected by a fall in the overnight call rate, which traded at 8.50 percent, below the RBI's intended target of 10.25 percent.
The central bank's rupee defence plank had centred on raising short-term interest rates such as the call rate to make funding for speculative trading much more expensive.
Investors already fear that existing measures will hurt economic growth, already at a decade low of 5 percent, by raising the cost of borrowing.
Finance Minister P. Chidambaram said last week the government was considering easing rules for companies that borrow abroad or potential duties on imports such as electronic goods to help narrow the current account gap.
The government is looking to pass in the current session of parliament some 43 bills and ordinances, including one measure to allow up to 49 percent foreign investment in the pension sector and another aimed at simplifying the process of buying land for business purposes. ($1 = 60.8750 Indian rupees)
(Additional reporting by Subhadip Sircar, Archana Narayanan and Suvashree DeyChoudhury; editing by Tony Munroe and Simon Cameron-Moore)