Indian Rupee: Will it stay afloat?

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 Indian Rupee: Will it stay afloat?
The rupee has been sinking and sinking bad. On Wednesday it was Asia's worst performing currency and is now down 12 per cent this year.

The economics of the rupee is simple. It will start gaining when dollar demand drops or will gain where we have robust dollar inflows.

There's only two ways we can help prop-up the rupee. Either we bring in robust dollar inflows or prevent dollars from going out. Sadly, we have been able to do neither of these.

For years now, there was complete policy paralysis at the centre for fear of withdrawal of support from plucky allies. Crucial Bills that would have bought in the much needed dollars through FDI were delayed because of political considerations. Instead, the government depended on volatile dollar flows into the stock and debt markets, by foreign institutional investors. Foreigners invested staggering sums into Indian markets which helped support the rupee for more then two years now. But now, they have started withdrawing money by selling Indian equities and debt, for fear of withdrawal of easy money conditions in the US (quantitative easing). This has pushed the rupee to a closing historic low of 60.70 against the dollar.

Preventing dollar outflows through gold import restrictions is unlikely to help. There have been various restrictions on gold imports to prevent dollar outflows and support the rupee. However, this measure is unlikely to see much help as falling prices of gold will ensure we keep consuming gold, putting the current account deficit at risk.

The other crucial area where there is huge dollar demand, which puts pressure on the rupee is to pay for import of crude oil. That cannot be curbed in any case as the nation would otherwise come to a standstill.

An artificial way to stop the rupee fall would be to allow the RBI to intervene in the forex market. But, each time the RBI sells dollars we deplete our forex reserves. There are reports that there is forex reserves to cover just six months of our oil imports, as against 18 months in 2008.

If measures to boost exports were initiated years ago, today it would have helped support the sinking rupee. The real worry should not be how to prevent gold imports, but, to boost exports.

Economists and foreigners have been screaming over the high current account deficit for more then two years now, but, policy making continued to suffer. With General Elections only months away, no major reforms can be expected, putting further pressure on the rupee.

The only worry now is that if foreign funds start withdrawing larger sums from the Indian markets, there's no telling where the rupee could be headed.

Read more about: dollar
Story first published: Thursday, June 27, 2013, 8:48 [IST]
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