The partly convertible rupee ended at 45.03/04 per dollar, 0.28 percent stronger than Thursday's 45.155/165 close.
"Besides the inflows, we also saw a good deal of year-end squaring up as most of the market had been sitting long (dollars)," a dealer at a state-run bank said.
"With volumes thin and very little demand for cash dollars, the (dollar) sellers dominated, lifting the rupee up."
Overseas portfolio investments, at a record of some $10.6 billion in 2005, have helped offset downward pressure on the rupee this year from a widening trade deficit and the dollar's broad gains.
Federal bonds closed marginally higher amid expectations for improved money conditions, with overnight borrowing costs easing about 20 basis points on the day.
The overnight call money rate ended at 6.95/7.05 percent on Friday, down from Thursday's 7.15/7.25 percent, but still above the normal band of 5.25/5.50 percent. The yield on the actively traded 8.07 percent 12-year bond eased to 7.1956 percent from Thursday's 7.1980 percent close.