Indian Rupee has been on a free fall since past few months. Rupee has lost more than 20% of its value this year as compared to last year. In this article, we will try to find out various reasons that Why value of Indian rupee is falling ? Further we will discuss repercussions (impact/ consequences ) of the fall of rupee. At the end we will throw some light upon the steps taken by Indian Govt, to arrest the fall of Indian rupee.
Why value of Indian Rupee is falling?
1. Growing current A/C deficit (CAD)– In simple terms, it refers to the difference between the export bill and the import bill. When import bill exceeds exports, we term it as deficit. When CAD increases i.e (imports increase), it tends to mount pressure upon rupee (as there is more demand of dollars in the market to settle the import bills), as a result of which value of rupee depreciates
2. Declining GDP- From past few years, India has been registering slowdown in its GDP growth rate.This has been mainly attributed to contraction in mining and manufacturing industry. GDP has been registered to be growing at a rate of 4.4 % in April to June quarter (2013). This has led to low confidence of potential investors in the Indian economy due to which flow of foreign currency (in the form of investments) into the country is declining steadily, leading to depreciation of rupee.
3. Scams :- Due to Coal Allocation Scam (Popularly known as Coal gate Scam), Supreme Court suspended the previous allocation of Coal Blocks due to which, despite having abundant Coal reserves in India, we had to import coal, which led to outflow of Forex reserves which added to CAD woes.
4. Food security bill :- Recently, Food Security bill was passed through Lok Sabha, which has led to the speculation in market that passage of Food Security Bill will add pressure on the reserves thereby contributing to Fiscal Deficit. This has hurt the Investors Sentiments, due to which investors are not showing confidence in Indian Economy.
5. Running F.I.I’s :- Foreign Institutional Investors (F.I.I)are not showing confidence in Indian economy, due to political Instability, Increase in number of scams, and improving (recovering)US economy, F.I.I’s are withdrawing from Indian markets and diverting their investments into the US market.
6. F.D.I :- Indian govt has been taking several steps in past to boost F.D.I across sectors in the Indian economy. F.D.I is seen as one of the key factor in boosting a country’s economy, as it allows the inflow of foreign exchange (currency) into the country. Except defense sector, F.D.I has been increased up to 100% in several sectors. e.g Multi brand Retail. But, major foreign giants are not taking much interest in the same.The reason according to analysts, lies in the credibility of the govt. Two major political parties in India has held opposite stance on the issue of F.D.I in retail; (one in favor and other in against). Elections are due in May 2014, and investors are fearing continuity in the policy changes.
In other words, Investors are speculating that policies may change depending upon the change in political environment pre and post elections.
7. Fear of Increase in oil price :- The Price of crude Brent oil ( from which Petrol is extracted) in the international market has reached $116 per barrel(28th Aug 2013) and is heading towards $120 per barrel, due to which there is increase in the fear of rising oil prices. Speculation of U.S attacking on Syria is adding fuel to the fire of rising oil prices. India is a major importer of oil, roughly 80 % of oil is imported in India.
Oil imports are settled in US dollars in India, now as price of crude is rising in international market, in order to pay the import bill of crude oil, Indian oil firms have to buy dollars by selling Rupee in the international market, as a result of which demand of dollar increases in the Forex market consequently value of rupee decreases.
What are the Consequences of Falling Indian Rupee ?
1.Rising Import bill – As already discussed, most of the imports are settled in US Dollars, the importers have to pay the bills in dollars for their import, for e.g Crude oil. As the price of rupee falls, importers have to spend more rupees to convert them into US dollars to settle the bills, which in turn leads to inflated import bills, which subsequently is reflected in rising CAD, leading to further depreciation of rupee.
2. Inflation– As imports become costlier, the prices of the imported goods is bound to increase. This will lead to reduction in savings as the person has to spend more to purchase the commodity and the common man is bound to suffer. Most of the impact can be seen on price of Petrol/Diesel due to rise in their cost in the international market.
3. Unemployment– Jobs are less created, and existing employees face the wrath of falling rupee. This can be explained with a simple example: Suppose company A is a manufacturing unit, and imports components from outside. As value of rupee falls, import bills sore high thereby decreasing company’s margin of profit. To cut cost, employees are retrenched/ lay off from the company. Same can be explained for a company who have taken external commercial borrowing in US dollars, whose repayment cost increases due to depreciating rupee thereby compromising with company’s profit.
4. Costlier Foreign Travel / Foreign education– due to depreciating rupee, person has to loosen his wallet more to pay for overseas education and travel abroad.
5. Costlier Home loans/ car loans etc– In order to curb the falling rupee, RBI resorts to higher lending rates to reduce flow of money in the market which make loans dearer. By doing so, the value of rupee appreciates as foreign investors are lured to India in order to fetch higher returns by parking their money here.
What Steps are taken by Indian govt to stop the fall of rupee?
Few of the steps taken by Indian govt are as below :
1. By increasing exports– This has a simple logic. By increasing the exports, we will increase the inflow of US dollars to our country, which will consequently decrease the CAD which in turn will help in appreciation of rupee.
2. Increasing Bank Interest rate for N.R.Is– N.R.Is will repatriate more dollars to our country in order to gain more interest on their deposits, which will in turn increase the inflow of foreign currency into the country, thereby releasing pressure from Indian rupee.
3. Increased Import Duty on Gold– Indian govt (Finance Ministry) raised import duty on gold from 6% to 8%, as gold imports are one of the major contributor to India’s rising current account deficit. We have already understood above that how current account deficit affects value of currency.
4. Sell dollars to state owned oil firms– RBI recently announced to sell dollars to three state owned oil firms, which will consequently reduce the demand of dollar in the Forex market (as explained in point above), thereby expecting the rise in the value of rupee.