India's depreciating currency a symptom of structural problems for New Delhi

The Indian rupee lost nearly 11% of its value against the US dollar y/y between May 2025 and May 2026, a slide that makes it the worst performing currency in the world against the greenback when looked at from a one, five or ten year horizon. According to reference rate-FBIL data from India’s National Stock Exchange(NSE)’s website, the Indian rupee hit its historic low of INR96.84 on May 20 2026.

However, the intervention of India’s central bank, the Reserve Bank of India(RBI) in the form of a direct currency swap auction worth $5bn finally stopped the fall and saw the Indian rupee recover by 0.6% to trade at INR96.20 against the greenback.

According to a report by Reuters, this was at least the fifth instance between February and May 2026 of an RBI intervention that saved the currency from plunging to levels which can be damaging to the economy at large.

However these interventions are only enabled by India’s substantive, but always under stress, Foreign Exchange Reserves (forex) which while used judiciously are not capable of reversing the trend even when combined with policy measures like changing the reference rate by several basis points, which is the other tool central banks use to support their currencies.

While the structural nature of India’s economy is that its commodity imports such as crude oil, natural gas and industrial inputs are also paid for by its forex reserves, the only source of replenishment is remittances in exchange for goods and services. India’s largest trading partners are the US and China respectively. However, both occupy completely opposite roles in terms of the flow of remittances to and from India.

Historically, trade with the US is mostly in services, with the balance tilting in favour of India as Washington is heavily dependent on India’s low cost talent for its IT and financial services conglomerate’s staffing needs, in the process resulting in a net inflow for India’s forex reserves. While the US has pushed India to offset some of this trade imbalance with purchase of high value defence equipment, it has not fully appeased the “America first” narrative of the US’s Trump administration, which has now imposed tariffs on Indian imports.

Trade with China however is mostly in goods as China holds the dominant position in supplying finished goods at the lowest prices to India across various sectors. However not only is this trade tilted in China’s favour, the balance of payments is a net outflow on India’s forex reserves.

The landscape is changing though - ever since the prevalence of Artificial Intelligence (AI) and Large Language Models (LLM)s which has led to mass layoffs and a general shrinking of available employment opportunities for Indian IT professionals and outsourcing contracts for Indian IT conglomerates, as well as subsequent remittances that are the main source of India’s forex inflows.

The lack of ability on the part of Indian IT conglomerates like Tata Consultancy Services (NSE:TCS) and Infosys (NSE:Infy) to adapt by competing in the race for either providing LLMs of their own, which can compete against US market leaders such as OpenAI and Anthropic or China’s Deepseek, or to find another niche that complements them has essentially made it just a matter of time before their business models collapse.

The collapse of the Indian IT sector will not only mean a sharp fall in Gross Domestic Product (GDP) and foreign remittances, but will also come with an unthinkable societal and human cost of mass unemployment and erosion of wealth, as well as standards of living.

The crisis has also been aggravated by the commodities shock in the form of the disruptions the world economy is going through because of the conflict in and around West Asia and the Strait of Hormuz. Between 2016 and 2026, to protect its trade and source of remittances with the US, India has abandoned or downgraded several beneficial bilateral relationships with other countries, including Iran and Russia which are both antagonistic to the US.

India had to - on the surface at least - stop buying crude oil from Iran which was its largest supplier in 2016, under direct pressure from US President Donald Trump during his first administration, and was briefly slapped with a punitive tariff for buying Russian oil in his second, ongoing administration.

While the US has briefly allowed India to buy oil from Russia for limited periods under waivers, according to a report by the Indian Express, the last waiver expired on May 16 2026, with the US Treasury refusing to grant another extension.

While continuing to buy Russian crude opens India up to the risk of secondary US sanctions or being slapped with punitive tariffs, India has no real alternative in terms of volume. According to reports from early March 2026, Russia has also stopped selling its crude oil to India on extremely favourable discounted rates.This in turn has also led to a higher burden on India’s forex reserves, as despite the theatrics of local currency payment settlements in rupee-ruble terms, the majority of the India-Russia hydrocarbon trade is settled in US dollar, Euro and Chinese yuan depending on the exact shipment and its terms.

As neither the energy shock nor the crisis in the Strait of Hormuz look likely to vanish anytime soon, the erosion of India’s forex reserves and its central bank’s ability to intervene will continue to proportionally deteriorate.

Indian Prime Minister Narendra Modi has acknowledged the gravity of the situation publicly, as he addressed the nation in a televised statement urging the public to save energy, not to buy gold, take foreign trips, and reduce the use of imported goods as much as possible. Modi also expressed concern that the economic gains of decades could be wiped out by the ongoing crisis.

Another minor but still significant reason for the Indian rupee’s slide is the divestment from Indian equities by Foreign Portfolio Investors (FPI)s, especially Foreign Institutional Investors (FII)s. This is partly attributed to the high transaction and capital gains tax rates compared to other markets and regulatory jurisdictions, but also because India has little in the way of high growth publicly listed semiconductor and AI infrastructure or services subsectors and companies to invest in.

While the Indian government has rolled out several incentives as well as policy support measures to enable and inculcate a high-tech industrial ecosystem ranging from semiconductor manufacturing to locally brewed LLMs, it all remains at a nascent stage with a maturity time frame measured in decades.

Similarly, while India’s finance minister has expressed the government’s willingness to listen to investors' concerns around the taxation structure for equities, without substantive relaxations the return of FPIs is not guaranteed.