THE landslide victory by Prime Minister Narendra Modi’s Bharatiya Janata Party in elections to the legislature in Uttar Pradesh — India’s most populous and politically most significant state — early this month has not only boosted the stock markets, but has also led to a sharp revival in the rupee.

Last week, the Indian currency hit a 16-month peak against the dollar, even as foreign investors ploughed in funds to acquire shares. On Tuesday, for instance, the first day when the stock markets opened last week (after the BJP victories in UP, Uttarakhand and a couple of other states where it has been able to come to power despite winning less number of seats than the Congress), foreign investors were net buyers of nearly $650m worth of shares.

In March, foreign investors have been net buyers of shares worth nearly $2bn in the Indian stock markets.

The Indian currency also gained strength. After closing at a low of 66.6 just a day before the results were announced, it surged on March 14, touching 66.175 against the dollar, a rate that prevailed in April 2016.

Speculators and forex traders began dumping the dollar, taking the rupee to a new high of 65.76 against the dollar, and closing the day last Tuesday with a gain of 78 paisas (1.17pc) at 65.82. This was the highest closing for the currency since November 2015, and the highest single-day gain in over four years.

Last week, the Indian currency hit a 16-month peak against the dollar, even as foreign investors ploughed in funds to acquire shares

Surprisingly, the rupee gained strength at a time when many analysts had warned that it was set to lose against the American currency, especially after President Donald Trump has been trying to boost the dollar. Last week, the US Federal Reserve raised its benchmark interest rate for the second time in three months, hiking the rate by 0.25pc to 1pc.

For most of last year, analysts were predicting the sharp decline in the value of the rupee against the dollar. Many had said the Indian currency would be quoting at Rs70 to the dollar by the end of 2016.

A report by the Deutsche Bank had warned that the rupee would touch the 70-mark by December and could dip to 72.5 by the end of 2017. Towards the end of 2016, the rupee did fall, especially after the Brexit vote in the UK and Trump’s win in the US. It fell to a low of 68.78.

And as recently as January, Deutsche Bank came out with another report warning that the Indian currency would weaken further as the Reserve Bank of India (RBI) wanted to cushion the economy from excessive appreciation.

“It is unlikely that the RBI will tolerate a persistent appreciation of the real exchange rate in the months ahead, as it leads to a loss of export competitiveness, which could hurt growth,” Kaushik Das and Taimur Baig, senior executives at the bank, wrote in a report a few weeks ago. “Clearly, further real appreciation of the rupee needs to be arrested.”

The two bankers said that with the global financial markets expected to be volatile over the coming months, “the RBI would need to buy dollars at every opportune moment to shore up more reserves.”

But surprisingly, despite such misgivings, the rupee did not suffer so badly as the other currencies including the Japanese yen, the euro and the Chinese yuan.

The primary reason for the bullishness of stock players and investors in the Indian currency is the fact that Modi could yet again win the 2019 general elections, ensuring continuity of his policies.

According to Anindya Banerjee, a currency analyst at Kotak Securities, foreign currency inflows are driving the rupee now. “With the rupee hitting a fresh high, many speculators, who went long on the dollar, have hit stop losses,” he says. “This has added to further dollar sales, which has been further exacerbated by large corporates cutting derivative deals.”

WHILE international bankers appeared desperate last week as the Indian currency breached many of their barriers, dipping from 66.30 against the dollar to 65.80, state-owned banks were busy gobbling up the greenback.

Some analysts expect the rupee to gain formidably over the coming days, touching the 63 mark against the dollar. They point out that the rupee was set to strengthen, especially with India’s current account deficit (CAD) reaching manageable levels in recent times.

The CAD, which amounted to 4.82pc of the GDP towards the end of 2012, came down to 0.6pc of the GDP four years later, ensuring that the rupee remains a stable currency.

Of course, everything is not hunky-dory with the Indian economy. Wholesale price inflation (WPI) has topped a three-year high, touching 6.55pc in February from 5.25pc in the previous month. Retail inflation too peaked to a six-month high, touching 3.65pc (from 3.17pc in January).

Some fear that the possible roll-out of the GST later this year would lead to further inflation. Even the Central Board of Excise and Customs has said that the GST could result in more inflation.

According to a note by Edelweiss Securities, consumer price index (CPI) could rise further in the 4-4.25pc range on low base effect, but the rise is expected to be very benign. “While vegetable prices are likely to normalise after a steep fall, pulses prices should fall further,” it said in a note.

The recent victories of the BJP in UP and a few other states and the virtual demolition of opposition parties including the Congress and regional ones like Samajwadi Party and Mayawati’s Bahujan Samaj Party (BSP) has emboldened many to predict that Modi will pursue more reforms over the coming months.

The prime minister has been cautious in his economic policies during the first half of his tenure, fearing a backlash. But with electoral victories, many economists and analysts feel he will be emboldened to take on major reforms.

Published in Dawn, Economic & Business, March 20th, 2017