1. Why unchecked rise of rupee can be damaging for India

Why unchecked rise of rupee can be damaging for India

Though the political class appears to be in favour of a strong rupee—the currency has appreciated around 6.1% against the dollar so far in 2017—the absence of reliable data prevents a realistic estimation of the damage this has caused in term of lost exports growth or the fall in domestic production due to cheapening imports.

By: | New Delhi | Published: August 11, 2017 5:32 AM
rupee, unchecked rise rupee, rupee damaging india, economy, india economy Over the past few months, RBI has tried to slow debt inflows by tightening norms for masala bonds. (Reuters)

Though the political class appears to be in favour of a strong rupee—the currency has appreciated around 6.1% against the dollar so far in 2017—the absence of reliable data prevents a realistic estimation of the damage this has caused in term of lost exports growth or the fall in domestic production due to cheapening imports. In any case, the data will be muddied by the fact that both demonetisation and GST—at least initially—have also adversely affected domestic production. In the current year so far, a total of $31 billion of FPI flows have already come versus an outflow of $2.7 billion in the same period of 2016. Not surprisingly, then, the rupee has appreciated from 66.93 to the dollar last year in August to 64.08 today. And, given the significantly higher interest rates in India—around two-thirds of the flows have been in the form of debt and a third equity—there is no telling how fast these flows will slow especially since, contrary to what was expected, the US economy is not reflating at the expected pace with president Trump neither managing to slash corporate taxes to the levels he promised nor managing to increase spending. In the event, FPIs benefit from both the higher interest rates as well as the appreciation of the rupee—and the more the inflows, the greater the appreciation, making India the darling of the carry trade.

There is no short-term solution to slowing, or reversing, the rupee’s appreciation. Even RBI’s purchase of $20 billion—half each in the spot and forward markets this year—has not been able to stem the rise. There is also a limit to how many dollars the central bank can purchase since this has to be sterilised to prevent inflation; this involves a considerable cost which India does not have a strong enough fiscal balance to sustain. Over the past few months, RBI has tried to slow debt inflows by tightening norms for masala bonds—the tenors were raised to 3-5 years and an interest rate cap was imposed in June—and RBI even said each issue would be cleared by it; Sebi reinforced this with a temporary ban on new issues. And, in July, RBI tried to increase the maturity profile of FPI investments in G-Secs.

A more meaningful solution to reversing the rupee’s rise will require sharper cuts in interest rates as well as greater attempts to slow inflows; promoting outward FDI is another solution that needs to be worked upon. It may also be worth taking another look at the automatic hikes that were put in place for FPI positions in the bond market under the medium-term framework two years ago—the limits on FPI, to that extent, serve as a cap to debt inflows and the rupee’s appreciation. And, if RBI is to take meaningful positions in currency markets, the government has to create enough fiscal space to be able to service the resulting interest costs. A related problem, though, is that a stronger rupee has been used as an inflation-fighting tool—that dampens RBI’s resolve to prevent the rupee from rising, more so at a time when inflation-targeting has become its primary goal. Perhaps the chief economic advisor’s next task should be to try and estimate the damage caused by an appreciating rupee—only then will the political class rally around the idea of a weaker currency.

  1. S
    Sadasivan
    Aug 11, 2017 at 7:38 am
    What was the case,when the Rupee was weak at 45 to the US Dollar?Do you want India to remain poor forever,losing on all fronts,with a weak Rupee?
    Reply
    1. S
      Sadasivan
      Aug 11, 2017 at 7:34 am
      I saw a similar article yesterday. Are the vested interests misusing,the MediaThe Rupee has always to be stronger.The stronger the Richer Indians would be.No economic powerhouse can afford a weak Currency.And India is slowly trying to become an Economic Powerhouse,thanks to the G20. Indians have been kept poorer and poorer by the pseudo-Economic experts,on the diktat of the likes of IMF,which crries foul when the Rupee becomes stronger... please google:-'Deba t of Coinage Nicolaus Coppernicus
      Reply
      1. S
        Sadasivan
        Aug 11, 2017 at 7:24 am
        1 dia's Debt to the WBmIIMF and ADB was $ 175 Billion,in 2013/14.Now it may bem more.hence India willlose heavily both on Pricipla and interest as these loans were taken when the Ruupee was far stronger.Other External Debts have also to be considered 2 dia imports MORE than it exports.Especially Crude. 3 dians will beocme poorer by a weak Rupee due to loss of urhasing power 4,,Exports with a weak Rupee is subsidizing Freign Cstomers,at the cost of Indian 5.During Independence The Rupee was on par with the US Dollar as the Rupee was tied to the UK Pound 1971 oor so it was Dollarr depemdent.The Ruppe has lsot much value as the US Dollar has been weakened connsideerably with QEs etc. 6.A weak Rupee will increase the Rich poor gap. 7.Only the USA has to live with a weak Dolllar as it has to suuply Dollars to the Globbal Fiinancial System.the so-called triffin Dlemme 8.NDA is interfering in Gold,and Stocks,preventing the Free Markets to play themselves out fearing a higher CAD
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