Slide in rupee has everyone worried with few solutions in sight

Slide in rupee has everyone worried with few solutions in sight

The Indian rupee fell to a life-time low of 58 against a dollar on Monday. A fall of almost one rupee from the previous day’s close. This was the sharpest slide in the currency against the greenback in nearly two years. Obviously, it sparked concerns all over. The market panicked,  investors went jittery, the government stepped in to calm down the market as the analysts predicted the Indian currency might hit 60 to a dollar in the first half of the year itself.

Although the rupee has been losing its sheen for quite sometime, the fall has been sharper in the month of May. The fall between January and May has been almost four per cent against the dollar.

But along with the Indian rupee, most of the emerging market currencies have been suffering. Take the case of Brazilian Real, Turkish Lira, Indonesian Rupiyah, Malaysian Ringit or the South African Rand. In fact the Rand’s fall has been the sharpest. It has slumped 11 per cent from January to May. Official data shows that the dollar has strengthened against 22 of 24 emerging-market currencies this year.

If all the emerging market currencies are bleeding vis-a-vis the US dollar, then why is this heightened worry? The reason for the currency devaluation is not India specific.  But, the consequences of the devaluation could very much be India specific. It is probably for this reason that there is a greater concern.

What could be the consequences? The kind of fall that the rupee has witnessed in the past few weeks, will certainly force the Reserve Bank of India to stay on hold the monetary policy for sometime. Higher the interest rate, more the costs of borrowing money, hence, slower production in the domestic market and slower investment. It also means the cost of production goes up. The move is also bound to be inflationary and will push up subsidies on the budget.                                               
Rupee, as against the other emerging market currencies, is falling not only because the dollar is getting strengthened but it is also because of the fundamental problems that India currently has. Its historic high current account deficit, the trade account deficit, that has widened to an unprecedented 5 per cent of gross domestic product in the year ended March 31. And, a still high government expenditures over its revenues or the fiscal deficit. When a country runs a high CAD, there is all the more pressure built up on the currency.
The recent increase in gold imports has also contributed to the raising concern over widening gap in the CAD.

Higher demand

Although the government has taken certain steps sporadically to stem the rise in gold imports with the latest being a further 2 per cent hike in gold import duty, the analysts say it is still unable to control the demand for the yellow metal. They believe lack of investment avenues results in higher demand for gold, making it inelastic in nature.

Coming to the immediate reason behind the rupee depreciation, it is the rise in US
treasury yield that is pulling the foreign investors from emerging markets, including India’s debt portfolios. The US saw its treasury yields move faster ever since the first noise of a tweaking in the quantitative easing, which is equivalent to money printing was heard early this month. This move was even more pronounced when the jobless claims data improved a couple of days ago.  Analysts have gone to the extent of predicting the fall in rupee to as steep as 60 to a dollar in the fist half of the year, if the RBI does not intervene to stem the fall.  Harish Galipelli, head, commodity and currency derivaties at JRG Wealth Management Ltd, told Deccan Herald that the rupee may drop to 60 level very soon, perhaps within the first half of the year itself, if the RBI choses to stay away.

According to Abhishek Goenka, CEO of  India Forex Advisors, the rupee may move towards 58 to a dollar this week itself. Goenka was also concerned about emerging markets facing huge outflows from the debt markets.

“The situation is quite grave, the end of Quantitative Easing in six months down the line could lead to major imbalance among the emerging nations. The era of free money coming to an end will move the base of growth for all of them,” he said.

The government is equally worried, so is the RBI, but whether the authorities should go in for an artificial correction in the currency by intervening in the market? The general consensus is, certainly not.

 A temporary arrest in fall of rupees can only be a temporary solution to the problem. It will currently increase the capital flows, but the question is how long can a country depend on external flows, which are by nature very volatile.

This will also make the long term external situation worse. Currently, the RBI has a reasonable quantity of forex reserve at around $ 300 billion, but the quality of the reserve is not all that good. Excluding gold, the ratio of our foreign exchange reserves to external debt is now just 68 per cent. For every dollar owed, India can repay only 68 cents, the data released in December last year said. So, the experts say that it is prudent to let the rupee find its own level.