The Great Indian Rupee Trick

This piece is not about how the economy is tanking. That is a known phenomenon and I wrote about it in my previous piece here .  Well that was around 8 months back. There was no doubt in my mind that the economy was in serious danger and the US Marines were unfortunately not there to come to the rescue, unlike the themes of several movies seen by me in my formative years.

Here this is about how our currency, the Indian Rupee is just poised on quicksand  and all the inflation that we have been tolerating so far is very likely to come back to bite us right on our collective backsides.  In Jan 2000, the CPI was around the 90 mark and in Jan 2004 it rose to 104. . However, the rate rose sharply from 2008 onwards and went from around 125 straight to 220 in all of 5 years.

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Here’s one more statistic showing how our external trade position has fared.

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Just below zero in 2004 and then it started getting more and more adverse. We are now having a trade deficit of close to 1000 Billion rupees or in USD as on date, it is around USD 18.62 Billion. Please note the sources from where these stats have been taken, before you accuse this Jan Sanghi of fudging statistics to show the Govt. in bad light.

Let us see how exports have fared

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Not bad one would say till you see this one: –

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And this has got progressively worse in 2013. No matter what you are told about easing in percentage of CAD to GDP, there is merit in believing the worst.

Why oh why is the Rupee seeing its worst days against the US dollar? The answer lies in two factors that you need to see, one is the relative rates of inflation, which determines rates over a longer time horizon and the other is supply and demand in the market for dollars. As you will see in this piece written at the time of Budget 2013-14, we are dependent on foreign inflows in the form of FII and FDI to keep the rupee afloat. All very well, except that there seems to be no reason for the world to support the INR. So when the collective thought of investors is to seek alternative avenues for investment rather than India, as they did by exiting Govt. securities and the stock markets, to a lesser extent, the Rupee just tanked shocking everyone. Shocking, hardly I would say. We should have seen this coming. A house built on a sandy foundation with no support will collapse. One cannot ignore economics entirely and expect that there will be no consequences.

One of my Gurus, Mr A.V.Rajwade made this perspicacious observation here in May this year: –

“AV Rajwade: Again I am taking a longer view and yes I think that our belief that we are an exception to every rule is a wrong belief. We cannot keep on living on others’ money forever. Nobody can, nobody has. Nobody has ever grown fast based on capital inflows. These are facts and I do not believe that we are an exception to this basic rule what we have seen in the last 70 odd years in the global economy.

The question is what kind of time horizon money is looking up? As I said our current account deficit is horrendous, there are few signs that there is going to be a significant improvement. Trade number for April was bad and that is likely to persist, iron ore exports have gone down, coal imports will go up. I would believe that in the medium term the rupee’s fate is going to be decided far more by the competitiveness of our tradable sector, not on what happens to the dollar index or what happens to the dollar yen rate or whether there is risk on or risk off and so on so forth. Those are essentially for traders and I am not a trader in currencies.”

The markets react on a short term basis but eventually settle into sanity once the exuberance is over.  This will happen soon.

The Rupee’s fate is only a symptom and not the cause. It has tanked only because of the mismanagement of the economy by the UPA, mainly the congress. One of the factors that affects exchange rates is the differential of inflation. The differential of inflation between the USA and India is roughly 8% p.a. since around 2009. This would affect the Indian rupee directly, if the rupee were a freely traded currency on the capital account. However, since the Rupee is traded only within India for the greater part,  it is governed by supply and demand. At present demand is greater than supply because more USD is remitted out than coming in.  Our exports need to go up substantially and the imports need to be brought down so that we can see a strengthening of the rupee organically. The paradox is that thanks to the mismanagement of the economy, the Rupee should be around Rs 75 to the dollar, based on relative inflation of the USA and India. Our exporters are a resilient lot and will settle for sales proceeds at Rs 60+ to the USD and we can see some short term increase in exports with a slight lag. On the imports side, there is a need to identify what we don’t really need and stop these imports. Is there any reason for us to import apples and oranges? Or soft toys? We must ruthlessly stop nonsensical exports and see how to improve supplies from within. This will result in an internal surplus that will also affect the external deficit in a positive manner for the country.

It’s a pity that the UPA has, for short term electoral gains, reduced our people to a set of wimpy freebooters. Hopefully we will see a new dawn soon and find India on the path to greatness. But that seems to be at least a year away and the path thereafter will include tough and politically unpopular decisions. Well, I can dream!

Coming back to the Rupee, I am of the strong opinion that we will see a big depreciation once again because our economy, at least on the forex side, is floating on a sea of hot money that will just evaporate. How much of our reserves are real and durable reserves of a medium to long term nature, and how much is made up of volatile flows is not clear. Our people have lost faith in the Govt. and banks, and are moving away from deposits as their mainstay. While Gold has stayed down, it will not be long before it starts rising encore. Wait till Deepavali for that. Also when people lose faith in the economy they gravitate towards gold. There are some people like me who have only a limited happiness in seeing the dollar rise. I am well aware that purely in a selfish way, it is nice to get that much more for each Dollar I remit, since I work outside India. Overall, however, I would prefer to see a situation where the Rupee starts appreciating once again on the back of good export performance and the govt. is able to trim down imports.

Finally, here is why I believe that the Rupee will tank further and stay low for a long time: –

  1. No FDI is coming, regardless of the noise made by the #PaidMedia and the dishonest Govt.
  2. The trade deficit shows no sign of decreasing as the imports exceed exports by a good USD 20 billion or so every month
  3. Oil has just touched 100 and will only increase as winter sets in and demand increases. So unless, the oil companies have booked forward at a good price, we have to deal with the reality of higher oil prices
  4. Sooner rather than later, the India story will wither away, thanks to high fiscal and CAD and plain mismanagement and scams, and it will be very difficult to resurrect it. The consequence would be a flight of capital with a deleterious effect on the Rupee

Well, the people have voted for a ‘subsidised’ life with Bharat Nirman and FSB and NREGA. The results are there for all to see. Where are we headed? To a hellish life made more hellish by runaway inflation, a Rupee tanking and looming food shortages as farmers find no labour to help in sowing and harvesting their crops and a whole generation bred on freebies.

We have one hope and he will come in on the back of huge expectations. But I am sanguine that he will assemble a crack team that will take unpopular decisions in the short term to ensure a long term surplus for all of us. If we have UPA3, kiss the idea of India Good Bye!

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18 thoughts on “The Great Indian Rupee Trick

  1. Among the reason why rupee will tank further, you have mentioned that no FDI is forthcoming. No FDI should be taken as a blessing in disguise. Because FDI creates multiple time liability on Forex from second year and hence increases CAD. Pl. I wish to send you my article on the subject if you can e mail me your id. maheshbakhai@gmail.com

  2. One, long over due from you Sir 🙂 nevertheless, it has come at an appropriate time, at a time when the Rupee and the Congress led UPA2 Government both are competing as to who would go further low between them. While the political degrading was nothing new, rather, was faster than expected, the economy behaved in a more decent manner and fell down at a hurting but bearable pace. But the current low of the Rupee and its further envisaged decline leave everyone in a critical spot of bother. Inflation is bound to rise higher. Cost of living is bound to escalate, if not already. Prices of essential goods are already on the rise. A salaried person finds his bundle of notes in an unnaturally reduced state by the end of the month (a direct contributor to corruption).

    While I as a layman may not understand the intricacies of economics and its downturn, I certainly am capable of being conscious and vaguely aware of the enormous burden a common citizen has been forced to inherit, thanks to gargantuan misgovernance by a free for all Union Government led by a comatose Congress Party. I am one of those lucky ones, thanks to God, who can withstand this despicable decline, but what about the 40% + population of our Country categorized under BPL? How are they going to survive this enormous encumbrance forced upon them by the very Government they voted to power with hopes of enlivening their future. It is an unbearably sad plight.

    After 9 years at the helm of affairs, after having an economist at the command control, after having handed over a coffer filled with riches and after handing over a nation reasonably marshaled until 2004, it is only a hostile hypocrite like the Congress Party than could have reverted the country back to the days it was when *only* the Congress Party was the sole executive. No phrase can explain the autarchic demolition the so called UPA2 administered on the Country in every aspect and annihilated it to a position of redundancy from a domestic and international point of view.

    Like you concluded, let us prepare to kiss India goodbye if a UPA3 returns for another term. Civil war is assured in this instance. The only hope among all these adversities is but one man who perhaps can pull out the nation from this predicament — Narendra Modi. FDIs will flow in. Domestic industrialists will bring back their wealth. Expatriate Indians would begin to re-invest. Imports and Exports would definitely improve. Agriculture would blossom bringing the domestic market tenable. And above all, there would be a Head of State so to speak with exemplary governing powers. Let us hope for that day to come at the earliest.

    Meanwhile, enlightening stuff Sir, one that was long overdue 🙂

  3. Insightful analysis; Scary forebodings in conclusion : “Sooner rather than later, the India story will wither away, thanks to high fiscal and CAD and plain mismanagement and scams, and it will be very difficult to resurrect it. The consequence would be a flight of capital with a deleterious effect on the Rupee.”

    At the time of writing this can well appreciate and imagine why our FM, now in the US is pleading with US Businessmen for rescue.

  4. A long awaited blog- but I think the rupee was on artificial support even otherwise,the real value of the rupee in my mind is about Rs 100 to the dollar.
    How ill exports grow when ports are not able to handle the cargo- The infrastructure is in a mess. Closer home, 18 hr powercuts-how can exports grow even if the industrialist wants them ? and why should we allow FDI in retail – just to purchase Zara handbags and Louis Vuitton ensembles?
    Let’s decide to kick out the UPA- Congress- but whoever comes in , his cup of woe is already overflowing….

  5. Hey RAK.
    I totally endorse your views on the subject. The solution is not trying to control rupee but to ensure that we have the necessary infrastructure , environment to encourage natural inflows into the country by way of exports or remittances or investments . Also a lot need to be done on the fiscal and corruption , all of which combined have contributed to a lack of faith in the economy and the so called ECO wizard PM led government. With such relative high inflation , how does one expect rupee to be stable . Our reserves should be made of muscles ( long term earned FEX) to face any problems, rather than through borrowings and FII which are more akin to a bloated obese body which get punctured on the first signs of difficulty ( flight of investments)

  6. Excellent but depressing.Unfortunately,as long as the average indian voter makes a choice based on freebies,caste etc the mafia triad of corrupt politicians,bureaucrats and businessmen will rule ok.Modi as PM looks a forlorn hope.

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