Weakening Rupee : Its causes and

Effects

Relationship between Indian Rupee and US Dollar

• 1947 – When India achieved independence there was no external borrowings on the India’s balance sheet. The exchange rate on 15th august 1947 was 1US$ = 1 INR. With the introduction of 5 yrs plans , Indian government needed foreign borrowing and this led to starting of devaluation of rupee. The trend continued during the Indo-China war of 1962 and Indo-Pakistan war of 1965 which further forced the government to devaluate the rupee as the country was in need of weapons.

• 1970’s - This was the time when India was under immense pressure by the US government to devaluate the value of Rupee so that the aid received by us government remains continue. In this time the Rupee got devaluated to 1USD=7 INR. The India was totally dependent on the aid given by the US that time.

• 1980’s – “ The strong Dollar Period”. In 1980’s USD grow stronger against the rupees under the incompetence of Indian politics coupled with robust economic growth in the US. The exchange rate in 1975 was 1USD=7.5INR and it increased to 1USD = 9.5INR in 1981. The next round of weakness came in rupees after the the death of Rajiv gandhi and there was political uncertainity in the Indian Economy. Then the BOFORS scam took place which led a huge loss to the Indian Economy and that time the value of Indian rupee reached to 13.5INR against 1 Dollor. In year 1990 it rosed to 17.5 INR against 1 Dollar.

• 1991 – After the economic liberalization in 1991 under the prime minister-ship of Narsimha Rao the rupee reached its lowest . It reached at 25.60INR=1USD. At that time India borrowed large amount of funds from the IMF (International Monetory’s Fund) , but at this time many MNC’s was at their infant stage they took the advantage of the situation. It sector was emerging that time and devaluation of rupee helped them to establish a good market in India.

Causes :- 1) Import of crude oil - Each year the country spends nearly 140 billion dollars

on import of crude oil, which means with depreciation of rupee by 25 per cent, the country would be shedding more for its imports of crude oil, which is price inelastic

2) Gold imports: Gold imports hit 162 tones in June, twice the monthly average of 2011 when they reached a record. Gold is the second most expensive import for the country after crude oil. India's current account deficit was equivalent to a record 6.7 per cent of gross domestic product in December 2012.

3) Fiscal deficit - Fiscal deficit of a country is an important factor that drives the currency of that nation. Higher deficit means the government will have to pay more and also print more rupee notes. This would result in excess supply of rupee in the market, leading to inflation and reduction in its value.  Similarly, current account deficit (CAD), which represents the net of import and export, results in more obligations for the country to make its payments in foreign currency.

4) Europe Crisis : The fact that Euro Zone is in crisis , people are more interested in dollars and they are doing more business with US. Europe crisis is also making more pressure on the Indian rupee as a result the Indian government has to import more form US then Europe. The europe currency was at its lowest in June,2013 which led to more pressure on the Indian current accounts and Balance of payments. This devalued the Indian Rupee and Rupee start falling .

5) Slow Debt-coverage – The Indian companies who are operating worldwide and they are lending loans to the people outside the nation are also suffering losses because they are not able to recover their given loans. This has caused the blockage in the money supply . Recovering the debt from the different countries is a major task these days for the Indian companies.

6) Weak economic fundamentals: Economist says that weak economy and no signs of a quick fix solution are weighing on the rupee. The UPA government is unlikely to deliver far reaching reforms to generate heavy capital inflows, as it did last December to stave off the loss of India's investment grade credit rating.

Effects - 1) Gold prices: A weakening rupee is supportive for gold. That's because global

commodities such as gold and silver are priced in dollars. Gold prices, which are down nearly 15 per cent (in rupee terms) in 2013, may trade in a range.

2) Petrol, diesel prices: Crude is the biggest component of India's import bill. A weak rupee is bad for the economy since oil companies, which pay for crude in dollars, will have to shell our more money for importing oil. This will increase India's current account deficit. The rupee weakness means there is little likelihood of a respite from high fuel prices, but because global commodity prices have been falling, there's no imminent threat of a price hike either.

3) The rupee weakness is a bad news for students going to study abroad as they will have to shell out more towards their fee and living expenses. Similarly, Indian tourists going abroad will have fewer dollars to spend because of the rupee weakness.

4) Exporters such as IT firms, which earn a majority of revenues in dollars, will gain from the rupee weakness. Companies like Infosys get over 75 per cent of their business from North America and Europe so a weak currency is beneficial for them.

5) The rupee weakness is bad news for investors, especially foreign funds. A weak rupee also dents corporate profits (especially for companies that import raw materials) and makes it expensive to borrow from abroad.

6) Companies which export goods and services to the US are the main beneficiaries of depreciation of the Indian rupee. They receive their revenue in US dollars whereas their major expense is in the Indian rupee. With rupee depreciation, their rupee-denominated revenue will continue to grow even though there is no change in expense. Information Technology (IT) is one such sector, which receives more than half of its revenue from the US.

7) The sectors that use heavy machineries usually import them from outside India. These items are very expensive and require a huge amount of initial cash outflow. Typically, companies borrow in foreign currency, also known as ECB (external commercial borrowing) to finance their investments. The interest and principal repayment is spread over several years. When the rupee depreciates, these companies have to shell out more rupees to meet their payment obligations

Conclusion

Thus weak Rupee is affecting almost all the sectors of the economy. Gradually with more global linkages, effect of exchange rate movements will be more acute on different sectors. Therefore stability in exchange rate is essential for stability in economy and this stability will not be assured by buying and selling of dollars by RBI but by stable growth of both export and import based industries of the country.