The way it should be

"It should not escape notice that gold and silver after circulating in every other quarter of the globe, come at length to be absorbed in Hinduston"

                         ~Francois  Bernier

Rupee: A dancing devil

Posted by VASUDEVA REDDY on Sunday, May 27, 2012 Under: economic articles

You must been heard of rupee’s steep fall in the last few days or weeks. The question that must be posed is, what it means to a common man. Of course, every macro-economic, overall economic environment, change has an impact on every citizen of its country; India is no exception for that.  Well, we’ll go through the reasons for the fall, implications of falling currency and the possible solutions to control the falling rupee.


 
  Reasons:

There is a saying in Hindu mythology, “there are 1000s of reasons behind the Lord Karna’s death”.  Similarly, you can list out some hundreds of reasons behind the currency depreciation. The major reason that has been stating by the Indian FM Pranab mukarjee and others is “Euro crisis”. Well, let’s try to get the facts out of it.  Of course, without any doubt, Euro crisis is the major problem the ‘world is facing’, not just only India. So, if it is the case all the currencies should’ve been depreciated on par with rupee, but it is not happening. You may get one more doubt, how a euro crisis affects the Indian currency, very valid doubt, indeed. The explanation goes as follows,

As you know, if don’t remember from now, Dollar is both the reserve and trading currency for the most of the world. The alternative to dollar is the euro, for most of the European countries euro is the reserve and trading currency. Because of the rapid growth that had shown by euro, many countries started to accumulate Euros instead of Dollars. So the dollar demand decreased, this was the time when the exchange rate of rupee with dollar reached Rs.30’s level.  Over the time, world economic conditions had changed and Euro zone stuck into the Euro crisis. So the future of Euro became suspicious. Due to that, the countries that has the reserves in Euros, started to sell Euros to Purchase dollars. This phenomenon caused sudden shift in the dollar demand. So, obviously, the currencies which are exchanged against dollar started depreciating.

Rupee is the worst performing currency in the south East Asian region. And India is the worst performing nation among the BRICS peers. Indian fiscal deficit is 5.2% of GDP while the same is 1.2% of Brazil. Current account deficit is going to cross the levels of 3% of GDP. So, it is clear that the reasons behind rupee fall are more internal than the external. Let’s see what could be the possible internal reasons behind rupee fall.


 


According to recent stats, our industrial output shrank by 3.5% YOY, current account deficit reached new heights, inflation is rising regardless of slow economic growth, FII’s are pulling back their money from the stock markets, FDI inflows are falling down rapidly with the non-favorable economic and political conditions, exports are becoming lesser while the imports became costlier, like wise you can list out endless reasons behind rupee’s fall.  

Our economy is into a vicious circle, we’re are having high inflation rates, to control that RBI has increased interest rates several times because of which industries affected badly. So the production became less and the exports also. With the rising crude oil prices in the international markets, the imports becoming costlier, so we need to spend much dollars to buy the same quantity while the incoming dollars are becoming lesser every day.

One more major reason is, pulling back of investments made by FIIs. Due the economic crisis all over the world, the earnings of any company dropped heavily. To make their balance sheet better, they are pulling back investments made in the foreign capital markets like NSE and BSE. This is causing the huge demand for the dollars and the more rupees are injecting into market causing the less demand.



Import export figures for the financial year 2011-12 shows that the imports were at $450 billion while exports were at $300 billion. Thus the trade deficit stands at $150bn which is equivalent to the 235 trading days annually. To make it simpler, for 365 days of imports we need to work for 600 days to compensate. With each passing year the trade gap is widening. In other words, we need $800 million every day to compensate the trade gap, which is the highest in the world, today. The same was at $50 million a decade back.  

It seems $300bn is the magic no for the foreign reserves; the same no has been there for the last few years. There was no good attempt to make it higher.

Implications:

Any kid who studied economics for a week can tell that the depreciating currency will help the exporters by injecting more money while hurt the importers by costing more money. But the actual problem is deeper than that. Our importers are getting hurt while the exporters are not making much out of falling currency. Interesting right! Let us see the details…

Well, software firms are major exporters in India. Most of our software firm’s revenues are coming from the support that they are providing for the foreign companies. Given to the global economic scenario, the projects that they are getting are also coming down, not sharply but gradually. As everyone says, stock market is the representation of the performance of a particular company. Ironically, IT indices are also falling with the falling rupee. Infosys has dropped by 17% since March 1 while Wipro dropped by 10% and TCS is maintaining its grounds.

With the highly fluctuating currency, everything will be bad in a long run. Neither importers nor exporters can make money out of it. So, it is always better to have a relatively stable currency.

Controlling measures:

As I’ve been mentioning in the article, the domestic production is the major remedy for the falling rupee or the higher inflation. Take the example of China whose exports are a bit higher than the imports, falling currency won’t be a big problem for them as they can have plenty of dollars with the higher exports, but our case is not the same.

Of course, it is not an overnight activity to increase the domestic production, but the actions should be taken in that direction instead of increasing the interest rate 10’s of times in the span of 2 years. Reforms should be carried out to control the current account deficit, which is the major problem that India is facing now. It is better to search for alternatives instead of disinvesting in PSU’s to control the Fiscal deficit. It is better to create favorable conditions for the FDIs to invest in India instead of making them to scare of India with the stupid rules and regulations.

 

In : economic articles 


Tags: rupee depreciation fall dollar oil economy industry indices growth fall 

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