What went wrong with Indian Rupee ?

[anil nandyala]

These days when I open a newspaper, the first thing that catches my eyes is Indian Rupee. I started wondering why rupee started suddenly de-rocketing against dollar and performing worse compared to its peers. I felt bad about India’s current state of chaos. On 24 may 2012 Rupee fell all time low of 56.37. I’ve decided to look the facts behind this and write, which I always love to.

What went wrong with Indian rupee?

While, lot of blame for rupee depreciation is given to Euro Crisis, India has to itself blame for market mayhem. Some of the main reasons for decline are

Fiscal Deficit (Difference between government income & expenses): India’s Fiscal deficit for the financial year 2007-08 was Rs 126912 crores and for the financial year 2011-12 was Rs 521980 crores an whopping increase of more than 300% and at the same time government revenue had increased from just Rs 509913 crores to 796740 crores an increase of 36%.

Trade Deficit (Difference between imports and exports): India’s Trade deficit for the financial year 2011-12 was $ 180 billion. Crude oil and gold constitutes of majority of our imports. Majority of the bills for imports has to be paid in dollars, whose value is totally depended on supply and demand. Thus leading to increase in demand for dollar.

Policy Paralysis: It certainly played a major role in declining rupee value. With government uncertainty on major polices such as FDI’s in retail, Land acquisition, Mining, Environmental Clearances, Goods & Services tax and other major policies has led to lose in investors confidence.

Global Economic Conditions: Crisis in Eurozone and has not only impacted India, but also many developing countries, Making United States safest heaven in the minds of investors, despite it’s huge debt.

What impact does falling rupee has on Indian economy?

Contrary, to many who say it makes exports more attractive and imports decline, it’s not the case, because majority of our imports are commodities for which we have no enough resources to satisfy the demand. Thus leading to increase in Fiscal Deficit, Trade Deficit and end cost to consumer.

What did RBI do to arrest the fall?

Open market selling of dollars, unfortunately this step did not yield any results, because of limited foreign reserves ($ 290 billion). Lower trading limits, position limit of $ 100 million on future contracts.

Despite, RBI’s rigorous efforts, Rupee ended at all time low of 56.37. The major problem here is Monetary and Fiscal policy are not in tandem with each other. While monetary policies are headed towards increasing growth and reducing inflation, Fiscal policies, especially subsidies (towards non economic creating activities) had led to increase in inflation, thus increase in interest rates.

What did Government do to arrest fall?

Undoubtedly, Government has two tools to increase rupee value one is it’s policies to attract foreign investments and second austerity measures.

Government so far has differed GAAR (General Anti Avoidance Rules) for next financial year to attract investments.

Austerity Measures for increasing Income, like Increase in sales tax and Retrospective tax amendments, but no major initiatives to reduce subsidies.

What more can RBI & Government do?

The only thing RBI is left with is reducing interest rate, but unfortunately inflation is very high. So the ball is in government’s hand. The rupee fall can be controlled if we have enough foreign reserves to pay for our imports. The foreign cash is mainly entered through FDI’s, FII’s, ECB (External Commercial Borrowing) & NRI’s.

India has received highest amount of foreign investments in Emerging markets and best stock market performer in January 2012, Suddenly things started changing in April with Foreign investments moving out due to lack of confidence. The Government can create the confidence among the investors, only if it can Depoliticize policy decisions and reduce Fiscal Deficit.

[Amit Mitra]

Quite an insight ... kudos.