Indian currency breached the level of 64 against $1 on 7th May, 2015. This is the lowest level that rupee has seen in last 20 months. After rupee depreciated and breached 64 levels, once again jury was out on fall of rupee.
For critics of Narendra Modi this was a kind of God send opportunity. They started making fun of Modi by asking that what happened to his tall claims about strengthening of rupee which he made last year before Lok Sabha elections. Twitter and Facebook got loaded with comments which showed that people have once again identified weak currency with weakening of nation and nations’ stand in international market.
While my sympathy is with critics, which is made of predominantly those opposing Modi , the fact remains that weakening of rupee is more of an economic event which is not always driven by political strength or not completely driven by a weak or strong PM. But before explaining this, let me tell why I am with critics partially. Look at the tweet below;
It is refreshing to know that the rupee will get stronger at Rs.40/- per dollar if Modi comes to power http://t.co/OacZDXesGy
— Sri Sri Ravi Shankar (@SriSri) March 20, 2014
This kind of tweet, not just by Sri Ravi Shankar but by many others, last year was completely uncalled for. Anybody who understands Economics and international trade would tell you that rupee touching 40 against $1 will kill the Indian economy.
Indian goods will become uncompetitive and domestic production will be hit. Japanese Yen is an example of this. Japanese Yen appreciated against $ significantly in a span of around twenty years i.e. from 1972 to 1995. Yen was more than 350 to a dollar which went up to around 75 against a $. This kind of appreciation killed Japanese economy and Japan experience what is now known as “The Lost Decade”. Japan is still recovering from this.
Oblivious of macro-economic dynamics Modi supporters kept on harping that when Modi comes to power rupee will become strong against dollar. Surprisingly some research reports also pointed out the same thing, one of which was used by Ravi Shankar to tweet what he tweeted. Since Modi supporters made fun of Manmohan Singh when Indian rupee went down, it gives some space to Modi opponents to make fun of him now. But this apart we should not forget some key points here.
The value of a currency against the other currency depends on so many factors. Some of the key factors that decide value of a currency is the rate of inflation in an economy, the rate of interest, volume of international trade and inflow of money due to investment policies.
The last one particularly holds good in context of stock market which gets lots of hot money if policies are favourable. This hot money flow keeps currency strong though in many cases just temporarily. But this is not all. Countries are fighting an undeclared currency war to ensure that their currency value is manipulated to keep it at a particular level.
Many countries, especially developed countries, through non-conventional monetary policy known as quantitative easing are trying to weaken their currencies to stay competitive in international trade.US tried to weaken dollar post 2008 crisis, Euro Zone and Japan have tried the same. China, which has a huge trade surplus, on the other hand has ensured that its currency does not appreciate. India has not taken a significant step in this direction but weakening of Indian rupee at this stage is a welcome sign rather than sign of weakness.
Indian rupee has been very strong and is still trading at a higher value in context of real effective exchange rate logic. Considering the level of inflation and interest rate that we have in India, compared to many advanced economies, the value of Indian rupee should have gone down some time back. But the huge inflow of money till the first quarter of this year had kept level of rupee high.
In fact fall of rupee has come as a blessing in disguise for India. The rupee should not fall more from here and if 63.50 to 64.50 range is maintained for some time, Indian economy will benefit from it. What is critical in this entire exchange rate dynamics is that the value of currency should not fall sharply in short duration and should show a gradual fall.
This is the point that I had mentioned in the last article where I had mentioned about weakness of Indian rupee (Forget About How History Will Judge Manmohan Singh, Is Modi any better?) Also unless India becomes a low inflation, low interest rate economy and starts growing rapidly and reaches economic strength and might of USA, we may not long term stability in Indian rupee. But still to expect rupee to touch 40 against a $ will not be good for the economy.
By: Vivek Sharma
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