The rupee posted its biggest single-day gain since mid-January 1998 as the Reserve Bank's latest move to shore up the currency by providing dollars to oil firms directly helped.
The partially convertible rupee closed at 66.55/56 per dollar, up 3.46% on the day, its biggest single-day rise since Jan 19, 1998. The unit had closed at 68.80/81 on Wednesday after hitting a record low of 68.85.
On Wednesday, the rupee had dropped 3.7% in its biggest single-day decline in 18 years.
The RBI late Wednesday said it would start providing dollars directly to three major oil importing companies -- who provide about 80 % of India's oil needs -- through a separate bank.
The new measure means Indian Oil, Hindustan Petroleum and Bharat Petroleum can buy from the RBI instead of the open market where they are responsible for most of the dollar demand.
The move means, however, that the RBI will have to dip into its foreign currency reserves, which it recently said were high enough to cover seven months of imports.
The rupee plunged 3.86 % on Wednesday, its biggest one-day fall in nearly two decades, on worries about a US-led military strike against Syria and surging crude oil prices which fanned fears of a financial crisis.
Prime Minister Manmohan Singh said in parliament Thursday that the country is faced "with a difficult situation" over the economy.
"There are several causes. I do not deny some domestic factors too are responsible," he told parliament and opposition leaders who questioned him on the rupee's sharp decline.
Singh is expected to make a statement on the economy on Friday.
Against the backdrop of unrelenting negative news for the economy, leading national business daily The Business Standard said confidence in the government had drained away and New Delhi must consider approaching the IMF.
"The government must recognise the possibility of such a lack of confidence that investors, domestic and foreign, just want to take their money and run - and invest it anywhere but here," it said.
It added: "It is, thus, once again clear that the only real option is to approach the International Monetary Fund (IMF)".
India last called on the IMF for funds in 1991 during a balance of payments crisis that was considered a national embarrassment.
The RBI has taken a number of measures to try and halt the fall of the rupee, Asia's worst-performing currency this year, which has lost around a fifth of its value against the dollar since the start of 2013.
Rupa Rege Nitsure, an economist with state-run Bank of Baroda, said the RBI must hike local fuel prices that are currently heavily subsidised, as state-run oil firms are hit by the rising crude prices.
Analysts fear the sharp rise in global crude oil costs will worsen import-dependent India's already record current account deficit -- the broadest measure of trade.
The deficit hit a record $88 billion last year but the government has said it will cut it to $70 billion this year.
A depreciating rupee makes imports of everything from oil to coal and chemicals costlier, and comes as foreign capital inflows into India have dried up and growth is at a decade-low of 5.0 %.
The rupee is one of many emerging market currencies that have also been hit by foreign fund outflows on expectations that the US Federal Reserve will wind down its stimulus scheme as the US economy recovers.