While the U.S. dollar has weakened globally, the Indian rupee hasn’t followed the expected path of strengthening. In fact, despite a nearly 10% decline in the dollar index so far this year, the rupee has slipped by 0.5% in July. This paradox has left many economists and currency watchers puzzled. Is it merely market sentiment, or is there a deeper economic strategy at play? A closer look at the Reserve Bank of India's (RBI) actions reveals some surprising answers.

Dollar Decline, But Rupee Doesn’t Rise: The Puzzle

Globally, a weakening dollar typically provides breathing space to emerging market currencies. Asian currencies, in particular, often gain strength when the dollar falls, as it makes foreign investments in these regions more attractive and boosts export competitiveness. However, India’s currency has not mirrored this trend. Instead, the rupee has remained under pressure and continued to weaken.

RBI’s Role: Buying Dollars in a Falling Market

One of the primary reasons behind this unusual trend is the RBI’s continuous purchase of U.S. dollars from the forex market. In May 2025 alone, the central bank purchased approximately $1.7 billion. According to currency experts, these purchases didn’t stop in May and have likely continued in the following months.

But why is the RBI buying dollars when the dollar is weakening and foreign investors are pulling out funds from the Indian markets?

The Hidden Answer: RBI’s $8 Billion Short Position

The answer lies in the RBI’s forward market strategy. The central bank currently holds an $8 billion short position in the forward dollar market. This means RBI has committed to selling dollars in the future through forward contracts. As these contracts come up for delivery, the RBI will have to supply dollars to the market and receive rupees in return. This process can significantly reduce the country’s foreign exchange reserves.

To prevent this depletion of forex reserves, the RBI has been buying dollars in the spot market. Since February, the RBI has already reduced its forward book by $3 billion. The goal is to manage reserves more efficiently while balancing future obligations. However, this comes at the cost of allowing the rupee to weaken.

Capital Outflows Adding Pressure

At the same time, India has witnessed significant capital outflows this year. Particularly, the domestic equity markets have seen heavy selling, with investors withdrawing funds amidst global uncertainty. Although there has been some inflow in the bond markets, the quantum remains much lower than expected. This imbalance has further pressured the rupee.

Why RBI Intervention Matters

The RBI’s consistent intervention in the foreign exchange market is not just to manage reserves but also to ensure adequate liquidity in the domestic financial system. By purchasing dollars and supplying rupees, the central bank maintains a delicate balance between foreign exchange stability and domestic liquidity.

Experts from IDFC First Bank have indicated that this strategy will have to continue. Given India’s current low balance of payment surplus and a significantly negative forward book, the RBI will need to keep a close watch on capital inflows and adjust its strategy accordingly.

The Regional Contrast: Why Other Asian Currencies Are Gaining

While India has taken a more conservative and reserve-preserving approach, other Asian currencies have taken advantage of the dollar’s weakness. This contrast highlights a strategic divergence. For many Asian economies, stronger local currencies mean reduced import costs and inflation control. But India, facing capital outflows and a forward book obligation, has chosen to stabilize reserves instead of strengthening the rupee.

Impact on Trade and Investment

The direct fallout of a weak rupee is visible in trade and investment decisions. Imports become costlier, which can contribute to inflation, while foreign investments may turn cautious due to currency volatility. On the flip side, Indian exports may become slightly more competitive, but only if the broader macroeconomic stability is maintained.

The rupee’s current weakness is not merely a reflection of global market trends but a result of calculated policy decisions by the RBI. These actions are aimed at preserving forex reserves, managing forward liabilities, and ensuring systemic liquidity. While this may be necessary from a macroeconomic perspective, it does impact daily trade, investment decisions, and consumer costs.

So the next time you notice the rupee weakening, remember – it’s not just about global dollar strength or weakness. It’s also about India’s internal currency policy, forward market strategy, and the RBI’s deliberate efforts to maintain economic stability.