The last few days have seen the rupee falling to all time lows against the dollar. The fall of the rupee could be partly attributed to the European debt crisis that led to relative appreciation in dollar against the Euro and the rest of the damage was done by weak domestic fundamentals - rising inflation, interest rate hikes, high fiscal deficit and FII outflows.
The falling rupee is also adding to the concerns of the corporates, as they fear higher repayment burden. It has also led to increase in hedging costs as cost of raising funds from abroad has become more expensive. In fact cost of raising funds via dollar bonds is almost equal to domestic cost of fund-raising. Earlier due to high interest rate in India and low interest rate overseas, it was cheap and easy to borrow money from abroad. However in the light of the lingering Euro zone debt crisis, all European banks have less surpluses to lend to overseas corporate houses and in addition to this the rupee depreciation has made fund raising more expensive and difficult.
The total cost of raising funds overseas has shot up to 9% which is nearly the same as domestic corporate bond yields of 9%-9.5%.The total cost of raising money abroad is equal to the sum of the Mumbai interbank forward offer rate (MIFOR) which is the an indicator of the hedging cost and cost to company. One year MIFOR rate has more than doubled during the September-December period. This extreme volatility in the forward markets has increased hedging cost from 2% to 4.3% which has discouraged companies from hedging. If the rupee declines further the hedging cost is expected to go up.
In the coming months the rupee bond market is likely to witness more activity. With inflation slowly coming down, the Reserve Bank Of India (RBI) might lower interest rates which will result in more institutions and corporates tapping the local bond market, making the Indian bond market cost effective compared to offshore borrowings.