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The rupee's fall is a telling comment on UPA's failure

Did we need The Washington Post to tell us about the inefficacy of the present government? The performance of the Indian rupee is enough for the world to know that there is something wrong with the country's economy. The Washington Post article is similar to that of the rating agencies downgrading India; it only follows what the markets have already factored in and the markets are currently factoring in the worst for the country.

The currency markets are the biggest punishers of wrong-doers. It is a well established fact that currency trading is 95 percent speculation and 5 percent actual flows. The biggest punishment currency markets have meted out is the collapse of the British pound in the early nineties when the British economy was doddering, and the free fall in the value of the Asian Tiger economies of Malaysia, Indonesia, Philippines, South Korea and Thailand in the late nineties, when the Asian economic bubble burst.

The currency markets are the biggest punishers of wrong-doers. It is a well established fact that currency trading is 95 percent speculation and 5 percent actual flows.

India is now facing a similar situation to that faced by the British and the Asian Tigers with the Indian rupee (INR) close to record lows against the US dollar. The performance of the Indian rupee since the swearing in of Dr Manmohan Singh as Prime Minister in 2004 has been pathetic, to say the least. The INR has fallen over 20 percent against the USD over the last eight years and this has come at a time when the economy grew at an average rate of 8.2 percent over the period. India's economic growth has been amongst the best in the world since 2004.

Why are currency markets downgrading the country so badly? In pure economic terms the twin deficits - fiscal and current account - are one part of the answer. India ran a fiscal deficit of 5.9 percent of GDP (as of 2011-12) and a current account deficit of 4.2 percent of GDP. However, while twin deficits are an issue, they are not the root cause for the country's woes. The US is one country that has been running twin deficits for ages and, while it has it's own problems, the USD is still the world's reserve currency.

The issue the currency markets have with India is that nothing is being done about the country's structural problems. A country that has grown at an average rate of 8.2 percent over an eight-year period would have created enough wealth to actually reduce deficits. However, the fact that the fiscal deficit has gone up from 3.88 percent of GDP to 5.9 percent over the 2004-05 to 2011-12 period suggests that there is a deep-rooted problem in the economy where government is funding the wealth of a few.

On the current account side, India is not able to manage its own resources properly with the deficit going from 0.4 percent of GDP in 2004-05 to 4.2 percent of GDP in 2011-12.

The 20 percent plus depreciation of the rupee - seen more acutely over the last one year - during the current government points out to the fact that the economy is growing only for a few and that scarcee resources of the nation are being used to the benefit of a few. Hence the spectacular scams in telecom spectrum auctions, coal block allocations and even Commonwealth Games. One doesn't need a Washington Post to point out the cause of these scams.

The question now is will currency markets continue to be bearish on India or will they look forward to a brighter future? At this point of time, there is nothing on the ground to suggest that the silent PM will become vocal. The fiscal deficit is expected to move up in 2012-13 from budgeted levels of 5.1 percent of GDP on the back of lack of any reforms on fuel subsidies.

The current account deficit will go down, more on the back of a slowing economy than anything else as imports fall on economic growth coming off from 6.5 percent levels in 2011-12 to below 6 percent levels in 2012-13 (economy grew 5.5 percent in the first quarter 2012-13). The only solace here is that the rupee looks to have priced in the worst.

The situation India is facing can be rectified. The first bit of rectification will come from the much-awaited diesel price hike. The hike should be big enough to send out signals to the currency market that the government is going ahead with tough decisions. Let's wait with fingers crossed for more of such measures.

Arjun Parthasarathy is the Editor of www.investorsareidiots.com, a web site for investors.