Indeed, the sudden outflow of about $2 bn in August did push the rupee quickly through 70 to 72+, but it has recovered since then, despite continuing FPI selling in the equity markets.
The head of a large equity fund I met at a restaurant last weekend greeted me with “80?” A very smart analyst I know sent me a report a couple of months ago forecasting 80 by mid-2020; his analysis was quite convincing, except for the fact that this has been his view for at least two years. A friend of mine in the hospitality business said he needs 90 for sustained profitability—everybody’s going to Bangkok and Dubai was his complaint. Another friend, who I sometimes consult on the “right” value of the rupee for his business—which competes with imports from China and has some exports—very matter-of-factly talked about 75-80. But, the loudest of such views was in an article by one of the by-now Grand Old Men of Indian finance—Shankar Acharya, who was Chief Economic Advisor to the government in the heydays of liberalisation—who simply stated the rupee is “hugely overvalued”.
I generally stay away from such judgements, although recent data showing that private outflows under the LRS are substantially higher than previous periods, does appear to suggest that Indians are finding it cheap to travel overseas, or they are worried about an impending sharp decline in the rupee or both.
The problem, though, is that even if the rupee were to weaken sharply, the impact on the economy would not necessarily be positive. Sure, it would likely reduce private outflows, but it is questionable whether a weaker rupee would directly lead to higher exports. In the recent past, the correlation has been minuscule.
Between 2013-14 and 2018-19, while the rupee fell by 32% (from 53 to around 70), India’s exports grew by—hold your breath—a sum total of 5%, from $314 bn to $329 bn. Over the same period, Thailand’s exports grew at twice the pace ours did—from $225 bn to $252 bn; however, the Thai baht stayed more or less steady against the dollar over the entire period. Vietnam saw its exports jump by a huge 84%, from $132 bn to $243 bn, with relatively modest currency depreciation (about 10%, from 21,080 to 23,228 to the dollar). Clearly, the global market was alive and well, certainly for Vietnam, where a modest currency depreciation led to an outsize jump in exports.
Our problems, as is well known, are structural, having to do with weak, if improving infrastructure, a poorly-trained workforce, complicated with anti-competitive labour laws, and a government that seems almost endemically unable to create a stable investment environment. For most companies, exports have long been very profitable, more so than domestic sales, but here, there has been near-zero investment in export capacities over the last several years. In fact, many large exporters are restructuring their businesses to invest in assets overseas, which, incidentally may support the view that the rupee is stronger than it “should” be.
Going forward, the export situation may well be even more difficult, with global growth showing definitive signs of slowing, confirmed by the fact that oil prices have behaved remarkably calmly despite the bombing of Saudi’s oil assets. Both the ECB and the Fed have just cut rates; a study referred to by the Fed suggested that the on-again off-again trade war could cut as much as 1% off the US GDP growth. In this kind of environment, rupee weakness will most likely be “wasted” in terms of pushing exports, and will only serve to amplify some of the negatives in the economy—higher costs (and possibly interest rates), more volatility and increased difficulty with risk management.
Of course, the market is indifferent to any of this, and whether the rupee will fall or not simply depends on the obvious rule of supply and demand. The key drivers of demand for dollars are the current account deficit and investment outflows. With the CAD showing signs of moderating as a result of the domestic slowdown—August imports fell 13% from the previous year—investment outflows remain the only real force to drive the rupee lower.
Indeed, the sudden outflow of about $2 bn in August did push the rupee quickly through 70 to 72+, but it has recovered since then, despite continuing FPI selling in the equity markets. To be sure, sustained outflows could push the rupee sharply lower—in 2018, the only year where there were net outflows (of about $11 bn), the rupee fell by about 10% (63.80 to about 70).
The big question is whether this will materialise.
Global investment sentiment remains remarkably buoyant, given the slowdown and multiple political uncertainties across the globe. But, investors are driven by simple arithmetic and with interest rates low, lower, lowest in the developed markets, it does seem that India’s government yield of 6-6.5% could continue to draw investment interest, despite the fumbling economy and nervous rupee.
Perhaps reflecting this, a survey conducted by UBS indicated that the majority of firms (34%) expect the domestic currency rupee to trade in the 67-70 range against the US dollar ($) over the next 12 months. “Around a quarter of firms expect it to weaken towards the 70-75 range. Overall, firms expect INR to recover to an average of 67-68 in the next 12 months.”
The author is CEO, Mecklai Financial (Views are personal)