The Depreciation of Rupee and the Attendant Anxieties
The Depreciation of Rupee and the Attendant Anxieties
Rupee is falling again
Rupee is in a precipitous fall. And if the furrowed brows and wizened faces of the talking heads are to be believed, this is a grave crisis. Against the dominant global currency US Dollar, the Dollar Rupee exchange rate was 73.75 in January, 2022. Today, as this article is being written on 12th October, 2022, it stands at 82.34, having hit its historic high of 82.82 on 7th October, 2022. Here is the daily graph of USDINR showing the relentless rise of US Dollar and fall of Indian Rupee.
Between January and October, Rupee has depreciated about 9.1% with respect to US Dollar. So how is it to be interpreted? Is the economy in free fall? Is Indian economy faring worse compared to its global peers? Curiously (and in popular discourse), the value of Rupee in the international currency market has been connected with national standing and prestige on the global stage and with the management of the economy by the Central Government. How correct is that?
What is Exchange Rate?
First, let’s understand what the exchange rate implies. In a floating exchange rate system, currencies assume their values in real time against other currencies based on demand and supply. The USD INR exchange rate means the amount of Rupees required to buy a Dollar. So the depreciation in Rupee’s value or (appreciation in Dollar’s value) in Dollar terms means this: it now takes more Rupees to purchase a Dollar. Nothing more, nothing less.
Let us investigate this further.
Dollar Index
Dollar Index (DXY) is a measure of the value of US Dollar against a basket of six major global currencies: Euro, Japanese yen, Pound sterling, Canadian dollar, Swedish krona, and Swiss franc. The index rises if the Dollar gains strength against these currencies and falls if the Dollar weakens against these currencies. Just to set things in perspective, Dollar Index is at its 20 year high. DXY currently stands at 113.24; the last time it was this high was 2002. Following is the multi year graph of DXY:
As can be seen, Dollar is on fire — a blinding blazing fire. It is not so much the weakness in Rupee as the super strength of Dollar. Rupee is merely assuming its value against the ascendant Dollar same as other currencies world over.
Why is the Dollar So Strong?
The Federal Government in United States pumped a lot of money ($5tn) in its economy as Covid stimulus to help families and businesses survive the shock brought on by the pandemic. This flux of money led to historic inflation in the US (to explain simply, a lot of money chasing the same things as before will lead to things costing more). The Federal Bank has been hiking the federal interest rates — from near zero at the beginning of 2022 to a range of 3.25% at the September FOMC meeting — to counter the surging inflation. This has led to strengthening of Dollar. The higher the base interest rate the more attractive that currency becomes for capital flow as investors can gain more returns.
To add to this the geopolitical risks plaguing the global economy — Russia’s war on Ukraine, Europe’s energy crisis, China’s prolonged woes owing to its zero Covid policy and bursting real estate bubble — are driving global capital to safe-haven investments. And the safest of havens is US Dollar; Dollar has outperformed every asset class including safe havens like Gold and Silver in the last year. This means investors are selling other currencies to buy Dollars thereby pushing prices up further.
Implication for the Indian Economy
The dwindling Rupee has multifold impact on the Indian economy.
Imports gets expensive
Since Dollar is the global currency of commerce, the depreciation in Rupee against Dollar makes imports more expensive. Since India is a major buyer of crude oil to fuel its energy hungry economy, the goods and services become more expensive as well, leading to inflation. Further, India is also a leading buyer of edible oil which makes food inflation, in particular, worse.
Exports (May) Get a Leg-up
Theoretically, the exports should become more competitive as the Rupee gets weaker, but due to global slowdown and similar (or higher) depreciation in other currencies (Euro has fallen 15%, Japanese Yen has fallen 23%), the exports are unlikely to benefit much.
Indian Economy is Alive and Kicking
Amidst all the gloom and doom, India stands out as perhaps one of the best performing economies in the world. Its recovery from pandemic has been nothing short of spectacular. Indian economy is projected to be the fastest growing major economy this year. IMF growth forecast for India pegs its growth rate at 6.1% for 2022-23. It looks pretty amazing compared to its peers as seen below.
The rhetoric of Rupee’s value being some sort of indicator of well being of the economy is utterly misplaced. All politicians while sitting in opposition have weaponized it to snipe at the Government in power; the same politicians explain the dynamics of Forex Markets, when in power. Media circus jokers (news anchors) pounce on the issue with pathetic ignorance and contemptible mawkishness, further amplifying the misconception for the people not conversant with financial markets.
May Rupee find its worth!