Rupee in free fall: A weaker currency may be a temporary setback, but can check Chinese imports

Editor’s note: The Indian rupee has crashed past the 72 mark against US dollar and continues to be on a roller coaster ride. The sudden fall has caught the government and the central bank off guard. High volatility in global crude oil prices and a ballooning current account deficit have been blamed for the rupee’s free fall. Does rupee at 72 rings alarm bells to the Indian economy or is there an opportunity in the currency crisis as the Narendra Modi government claims? Beginning today, Firstpost will publish a series of articles where experts will examine the economic impact of the rupee fall. “Look at China,” they say, pointing to its highways and the infrastructure at Shanghai. “Look at China,” they say, pointing to its sustained high growth for decades and its huge pile of foreign exchange reserves built by manufacturing exports. “Look at China,” they say, pointing to its emerging geopolitical influence in the Indian Ocean region and Africa. Strangely, few in India seem to mention that Beijing’s economic might was built with a shrewd foreign exchange policy that kept its currency, the renminbi, artificially low for a long period to help its export competitiveness. The Chinese currency is still subject to state controls. [caption id=“attachment_4336479” align=“alignleft” width=“380”] Representational image. News18.[/caption] As rupee breached 72 to the US dollar this week, there is a conundrum to solve involving a series of interconnected equations on imports, inflation, fiscal deficit and growth. However, only the naive would think that a strong rupee is necessarily desirable. Shooting off on Twitter to mock a weak rupee has inspired more politics in the social media than sense in the economy. True, there is more to India’s trade than its own doings or the exchange rate. A raging trade war between the US and China now threatens world economic growth, that in turn would affect overall export demand for nations including India. Currency shocks in Argentina, Venezuela and Turkey are playing their own role in setting the overall mood for emerging markets in which the rupee has to take a punch on its chin. It is equally true that India’s oil imports are high and a weaker currency inflates the import bill, giving a knock-on effect to costs that fuel inflation that in turn can hit interest rates, investments and growth. But, in spite of all that, is there not a  case to be realistic and align the economy with its ground realities when the country is largely committed to market economics? India’s current account deficit (CAD) is in a clear and present danger of widening. Rating service Moody’s said last month that the CAD is expected to widen to 2.5 percent in 2018/19 from 1.5 percent in 2016/17, a full percentage point jump over two years.  Net oil imports were as high as 2.6 percent of the GDP in 2017/18 and are expected to grow up further. India’s trade deficit in July hit a five-year high. The rupee weakening in such a context should be considered healthy because the exchange rate remains a key instrument of incentive for exports and a disincentive for imports, although that is no silver bullet. Understandably, one person who should know, former RBI governor Raghuram Rajan, has said the rupee’s weakness is not a matter for undue concern, although he is a vocal opponent of ‘ beggar-thy-neighbour’ exchange rate policies in world trade. Rajan took the bull by the horns in 2013, soon after taking charge, when the rupee slid nearly 12 percent against the US dollar in events linked to the beginning of the end of an ultra-cheap monetary policy in the US amid a weak external balance. Things turned around after that, aided both by domestic policies as well as a turn of global events. Economists may quibble on everything from infrastructure and commodity prices to world economic growth among export drivers. But, as a Bloomberg analysis said this year, a strong currency does hurt exports. A high fiscal deficit and a weak external balance make the currency and the economy vulnerable in the long run, and a weaker currency adjusting to external shocks should be seen as a healthy price signal that can kick in investments to boost exports – although everything from inflation-linked wages to infrastructure matter in the interconnected flow of things.

Also, a weaker rupee can help check reckless import of everything from smartphones to olives and chocolates and can provide a healthy overall macroeconomic protection to local manufacturers including small businesses. Cheap imports from China have hit growth in India in industries ranging from silk to toys and firecrackers. A parliamentary panel report noted this year that India’s trade deficit with China at $63 billion constitutes more than 40 percent of India’s trade deficit, with Chinese goods accounting for one-sixth of all imports. The panel even noted that India lost 2,00,000 jobs as a result of Chinese solar panel imports. Consider also the idea that the rupee’s weakness may be more contextual than real. The rupee was relatively stronger as a matter of good luck enjoyed by the current NDA government whose arrival coincided with a plunge in oil prices from roughly $100 a barrel levels when it took over to a third of that a year later before resuming a steady climb. Honeymoons do not last forever. It is only fair that exchange rates reflect domestic inflation that leads to increases in costs for exporters. The US dollar has appreciated by 24 percent to the Indian rupee from its May 2014 level of around Rs 58 to Rs 72 now. This is broadly in line with the growth in the consumer price index over the same period. The Reserve Bank can always step in if there is an irrational pressure on the currency. China sees its exchange rate regime as a part of a “broad development policy”. The least India can do is to at least not artificially keep its rupee strong. A natural, orderly weakening can help the overall economy adjust itself better. It is better to get a jitter now than suffer a shock later. (The author is a senior journalist. He tweets as @madversity)