Rupee falls, reforms lack pace and direction

It was September 2013, the BJP’s prime ministerial candidate Narendra Modi had attacked the fall in the value of the rupee in strongest terms at a rally in Chhattisgarh. “The failure of Manmohan Singh (the then prime minister) has led the economic situation to such a level that the rupee has landed in hospital where it is battling for life and death”. Rupee in that month sank to around 64 as against the dollar.

A little earlier,  Modi had compared the rupee with the then finance minister P Chidambaram’s age. “When India got independence, the rupee was at par with the dollar, one for one. Sixty-seven years down the line, where is the rupee now?  Today, India’s finance minister’s age is equal to one dollar.” Chidambaram was 68 then.

Wonder how many noticed that the rupee just crossed Narendra Modi’s age, now India’s prime minister. On May 7, the Indian rupee hit the lowest since his “…battling for life and death” comment. It was treading at 64.25 that day though it improved a bit to 63.86 on May 11. The wheel has come full circle in just 20 months down the line. Traders are expecting the rupee, weighed down by government’s taxation policies, to go down further.

But the reasons for the fall in rupee were different then. India was grappling with a huge budget deficit, crude oil prices were skyrocketing, the US Federal Reserve signalled to easy money policy, and the country had foreign exchange reserves enough to pay for only seven months of imports.

Economic growth had plummeted to a decadal low and prices of essential commodities were touching the roof. The unveiling of reports by the CAG about scams had almost paralysed decision making by bureaucrats. The sentiments were negative in financial markets and investors had begun to withdraw.

Situation today is exactly the opposite. India’s budgetary performances have strengthened, crude oil prices have been benign since June 2014, barring some upward movement in the past weeks. Fuel subsidy reforms are in place. India’s foreign exchange reserves are growing and touched a new high of $351.86 billion at the start of this month. Economy is growing at a handsome close to 7 per cent, inflation has gone into the negative zone. In sum, a perfect recipe for stability in the currency.

The question is why the rupee is falling once again? And whether the fall is going to be a temporary phenomenon or it is going to stay? The answer can be both yes and no. Yes, because the rupee may not see a precipitous fall like 2013 as the RBI now has enough foreign exchange reserve to check its fall. And, no, because the reforms are lacking pace and direction, forcing investors lose faith in India’s growth story.

The rupee was relatively stable against the dollar since one year. The immediate reason for its weakening came after nervous foreign funds, fearing imposition of past year taxes, started selling heavily in the market. In April alone, the rupee lost 1.9 per cent. Foreign portfolio investors sold $322.4 million in the debt markets.

Massive selling
The genesis of the massive selling was in Indian tax authorities asking some foreign investors in capital markets to pay back taxes on capital gains arising out of sale of stocks and bonds. More than 65 FPIs (foreign portfolio investors) were asked to pay 20 per cent MAT (Minimum Alternate Tax) for capital gains made in India. These tax demands were old and demands were made on the basis of the ruling given in 2012.

Strange enough, these came after Finance Minister Arun Jaitley’s Budget speech proposed to rationalise MAT provisions for foreign investors. Fearful investors started selling in Indian markets. The selling intensified after Jaitley justified the Rs 40,000 crore MAT demand on FIIs on April 15. This is about the tax story denting the market and the rupee. But tax is not the sole reason for money moving out of Indian market to countries like China, South Korea, Japan, Brazil, Canada and other emerging markets.

Reforms, sources in the government say, are losing steam. The government is bowing to pressure on many fronts. Modi in his election speeches had raised expectations of a quick turnaround in business cycle. His decisive election victory has not translated into big ticket reforms yet.

The fate of legislations such as land acquisition and the Goods and Services Tax (GST) are dragging feet. These two are being keenly watched by the investors. While the GST has the potential to add about two percentage points to India’s economic growth, the clearance of land bill will spur manufacturing activities and create jobs.

The GST has crossed its first hurdle after being passed by the Lok Sabha last week. The ruling coalition is not too sure of sailing through in the Rajya Sabha where it lacks majority. If the GST is not passed by parliament in the current session, it will miss the April 1, 2016 deadline and will increase trust deficit of the business community, the traders and the investors in the Modi government.

It is in this community in which Modi has reposed a lot of faith for turning around the fate of millions of India’s poor. But they have already begun to think that reforms in India will take a lot of time and many will eventually not be implemented.

Recently, Patricia Hewitt, head of UK India Business Council, had said, “Modi
is brilliant at campaigning in poetry. But government is both about the vision and strategy and about the execution, which is governing in prose. It is the execution that is missing”.

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