The most concerning chapter for India during last two years and specifically last two months is the weakening of rupee against dollar. It is not only that rupee has lost its value in the global context but also dollar has improved its performance in the global trading markets. The outstanding performance of US equities and the improvement in the labor market has made Americans more optimistic about the US economy, thereby stimulating greater hopes of QE(Quantitative Easing) tapering. The government of India is still unable to generate heavy capital inflows.If US Federal Reserve withdraws its bond buying programme; there will be unexpected outward flow of money leaving India clambering for dollars. The slowdown in the Indian economy has made the situation more fickle. The government has a strong role in controlling currency in the form of policy regulation and reforms. The current UPA leadership has failed to strike with some heavy reform to generate more cash inflows. As a result the government has gradually lost its control over rupee depreciation. Investors’ sentiment plays a pivotal role over here. Oil and gold imports account for 35 per cent and 11 per cent of India’s trade bill respectively.
There has been an uninterrupted demand for the dollar from the oil importers pushing the rupee lower. Likewise the falling gold prices have made the central bank to reduce imports, which increases CAD and hits the currency directly. Indian economy requires a strong structural reform to maintain a positive balance of payment. Also, government spends excessively as election approaches just to woo electorate votes. This causes the rupee to depreciate. Then the government beats around the bush to control the currency behaviour. Most of the times these measures worsen the economic crisis to a great extent. The foreign institutional investors have been selling index futures and Indian equity market is weakening. As a result there is a heavy demand for dollar and Indian currency as well as economic situation is looking too gloomy. These worries, combined with a record high current account deficit and now uncertainty over the central bank’s monetary policy stance, have prompted foreign investors to sell more than $12 billion of Indian debt and equities since late May. Reserve Bank of India has taken certain steps and some more to be followed to have a control over rupee. But the big question comes here.
what are the implications?
And is it that bad overall??
The best business prototype anyone can have is to spend in rupees and earn in dollars, which is what the giants of India Inc, including the top IT companies, excel in. Basically the sector which is targeting exports for its industrial operations are the one wins the game. Dollar appreciation would be positive for sectors such as IT, pharmaceuticals, hotel, textiles and automobiles which have the total foreign exchange earnings of these firms are far greater than their forex spends. As much as the rupee weakens, the foreign exchange earners gain provided the other factors remains constant. A sharply declining rupee triggers inflation, broaden the current account deficit, hits investor sentiment and creates burdens for organization with high exposure to foreign debt. The government and the Reserve Bank of India have taken several reform initiatives to resist the downturn, but their success stories are looking gloomy. Buying imported materials will become very costly. A weak rupee will create extra stress on Oil Marketing Companies (OMC) and this will surely be passed on to the consumers as the companies are allowed to do so after the deregulation of petrol and partial deregulation of diesel. If the OMCs increase fuel prices, there will be a substantial increase in overall cost of transportation which will trigger inflation. If the depreciation is steep and without control, it will strike up inflation.
As a result the Central bank would have very less room to impose further rate cut and that’s the burden the borrower would have to bear. Indians who have gone to abroad for tours or studies are highly affected in these times. The only smiling people in this context are the NRI’s who gain more on sending money to their homeland. As a whole we can say that though weakening rupee is the reason for someone’s smile it is a real threat for the country’s overall fiscal health and increase the current account deficit heavily. But in my opinion this huge downgrade is a temporary phenomenon and the rupee is really oversold. Now the Central bank and Government should work hand in hand and find out the policy measures to stabilize the frightening scenario. I personally hope a further cut in SLR to ease the liquidity to save rupee and also import duty hike in gold and other related materials. RBI can buy bonds to ease liquidity in the market.