Where goes the rupee? (The complex consideration for the rupee's value)

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Where goes the rupee? (The complex consideration for the rupee's value)

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• From 64 to 72: In 2018, the steep drop of Indian rupee against the dollar made the government announce a series of measures to defend the INR.
• What caused it? A series of external factors. 

1. Flow of global capital (and even currency speculators) to the US due to Trump's 2017 corporate  tax rate cuts, and Federal Reserve's raising the interest rates. 
2. US economy is doing well, so higher GDP growth is attracting more capital.

• Dollar versus the Rest: Euro and Pound too have seen the Dollar appreciate rapidly, and Turkey & S.Africa are hit.
• Beyond economics: If a nation's economic or political fundamentals are weak, the currency is hit even harder (Turkey - Erdogan, S.Africa - Zuma and Ramaphosa transition).
• Devaluation to handle CAD: It sounds good, as when you devalue your currency, your exports tend to pick up (prices of exports drop in foreign nations). Also, imports tend to go down. But the problem arises if many nations devalue at the same time. So India shouldn't expect much.
• Crude oil imports are price-inelastic: India imports irrespective of the price. Chinese imports are more than 10% of total now, and yuan too has depreciated against the dollar, so we don't gain.    CONCEPT
• RBI's forex reserves: Since that's huge, there's no immediate danger on balance of payments (BoP) front.

• Problem will be domestic:

1. Steep rise in crude oil will push domestic inflation, as petrol /diesel get costlier, and transportation costs rise (including for food items). 
2. Imported inputs for manufacturing will hurt, if domestic substitutes aren't available. 
3. Dollar loans get expensive.

• What to do - action or inaction? Either sit tight, or come out with full force.  In fact, neither is good. Go moderate.

• Moderate steps:

1. Reduce excise (centre) and VAT (states) on petroleum products immediately. 
2. RBI can surely offload dollars, but that'll reduce liquidity. So do it gently. 
3. In response to rising inflation, the RBI MPC with a 4% FIT CPI-linked inflation target, must raise rates very moderately. (Sharp rise = Negative impact on growth = Profitability hit = FPI pullout = More pressure on INR)
4. Float special NRI bonds, which are to be purchased with forex, with a maturity of 3 years. No need to give very high interest, as rates are low in US and UK. This method worked well in 2013.

• Summary : Of the many policy options, we must choose moderate ones to stabilise the rupee and focus on economic growth.

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