Responding to Weakening Rupee

What is the issue?

• The rupee has hit historic lows against the dollar in recent weeks.
• It is not a huge concern, but needs a well thought-out strategy for response.

Why is it not a concern?

• India's external accounts look far more secure.
• This is primarily because the foreign exchange reserves are in the comfort zone.
• They had dipped below $300 billion in 2012-13, but in 2017-18 they were $424 billion.
• The current account deficit, too, remains manageable.
• It is true that the long low in commodity prices is over.
• E.g. Fuel prices are in a rising trend.

What are the proposed risks?

• The prospect of a trade war is seen as disruptive.
• The merchandise trade deficit has been adequately compensated for.
• This is in part by payments for services and remittances as well as strong capital inflows.
• However, there has been concern expressed about all those components as well.
• E.g. threat of visa restrictions by the US administration could affect IT services revenue.
• But the revenue from IT and ITeS has been range-bound around $70 billion.
• Also, rising crude oil prices mean that remittances from the Gulf have rebounded as well.
• These fundamentals of the macro-economy appear to be strong, ruling out the risks.

What should India be prepared for?

• Certainly, there will be increased inflationary risks.
• The monetary policy committee of the RBI thus may be more willing to raise interest rates.
• This might in turn hamper the nascent growth recovery.
• In the short run, the trade deficit will also find it difficult to respond to a depreciating rupee.
• Despite this, much of India imports, including fuel and electronics, will not be easy to substitute.

What lies ahead for India?

• Indian rupee's depreciation is similar to what is happening with many emerging market currencies.
• However, the consequences of rupee depreciation need a careful handling.
• This is because, rupee depreciation is an opportunity that must not be wasted.
• India must increase self-reliance, one way, by further indigenising India's fuel mix.
• The government's large-scale renewable energy push should be seen as part of this effort.
• A sustainable external account would require sustained increases in the competitiveness of Indian exports.
• This requires domestic structural reform, which is also crucial for genuine macroeconomic stability.

Source: Business Standard