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Rupee in 2014: What is RBI thinking
When 2013 started, you got one US dollar for 54 rupees. This changed during the year, and you needed 69 rupees for one dollar in August. This means the rupee’s value fell in comparison with the dollar. Today, the rupee-dollar exchange rate has more-or-less stabilised between 60 and 62 levels. However, risks continue to hover over the Indian currency.
But, RBI Governor Raghuram Rajan does not see reasons to worry. In a speech in November 2013, a copy of which was published on the RBI website, Rajan explained why:
Current account deficit is the amount the country owes the world in foreign currencies. A widening of this deficit makes the rupee’s value fall. This is because, to fund the deficit, more rupee is sold, leading to a fall in value. This means, wider the deficit, weaker is the rupee.
India’s current account deficit jumped ten-fold in the last five years, mainly because imports of goods and services far exceeded exports. This was the main reason for the rupee’s fall. However, exports are up 13.5%, while imports are down 14.5% since last October. The gap between imports and exports has nearly halved. As a result, the RBI expects that the current account deficit too will narrow by $32 billion from the previous year. This is likely to remove the pressure off the rupee.
India depends on foreign investment to fund its current account deficit. Worries about the inability to fund the CAD was another key reason for the rupee’s fall. This means foreign flows impact the rupee’s value.
After the US Federal Reserve announced plans to cut down its $85 billion-worth bonds purchases from the market, a lot of foreign investors exited the Indian market, which is considered a risky asset. As a result, foreign investment in the debt market fell to $19 billion in November from $37 billion in May before the announcement. Rajan believes that the investors who remain are more patient, and are unlikely to exit now. He also believes that even if foreign investors pull out more money going further, India’s net FII flows will be enough to fund the CAD. This minimises the threat on the rupee.
Demand for dollar:
Oil companies are the biggest dollar-buyers in the market. This is because they have to pay for India’s fuel imports in foreign currencies. This is another key factor behind the rupee’s fall. In August, the RBI sold dollars directly to oil companies to support the rupee. However, October onwards, companies have been allowed to purchase dollars in the exchange market. Despite this demand for dollars, the rupee has stabilised. This reflects that the market has absorbed the additional demand smoothly, and is unlikely to trouble the rupee going forward.
The value of a currency is also a reflection of the economy and its growth. India’s economy has slowed down in the last few years. This can be seen in the weak growth in industrial production. However, Rajan expects that a good monsoon will help improve production. Moreover, the power sector has also shown strong growth. All this should lead to a faster economic growth in the second half of this fiscal year, according to Rajan. This will then benefit the rupee.
The rupee has appreciated by 9.95% against the dollar from its all-time lows hit in August this year. However, for the year, it is still down 12.66% against the US dollar. This is true for the Britain pound and the Euro too. The rupee is down 13.3% against the pound and 16.9% against the euro.