India is celebrating its 75th anniversary and stands at a crossroads to achieve steady economic growth for its people for the next 25 years – what the government calls the “Amrit Kaal” of the country.
In addition to other aspects of the economy, let’s see how the Indian currency, the rupee, has fared compared to other global benchmarks since 1947. The value of a country’s currency is a key indicator of its economic path.
Much has happened on the macroeconomic front since 1947, including the economic tensions of the 1960s caused by the collapse of food and industrial production
Then came Indochina and Indo-Pakistan, which expanded spending and created a balance of payments crisis.
Due to the high cost of imports, India has almost defaulted on payments as its foreign exchange reserves have all but dried up.
According to reports, the government led by Indira Gandhi at the time had to significantly devalue the rupee. The rupee fell to 7.5 rupees against the dollar from 4.76 rupees.
Then, in 1991, India was again plunged into a severe economic crisis as the country was unable to pay for imported goods and repay its foreign debt.
India is again on the brink of default and needs much-needed reforms to open up the country’s economy.
In response to the crisis, the RBI reportedly devalued the rupee in two installments – 9% and 11% respectively. After the depreciation, the rupee was around 26 against the dollar.
From Rs 4 against the then reference pound during independence to Rs 79 to Rs 80 against the US dollar, the rupee has depreciated by Rs 75 over the past 75 years.
“Many factors have contributed to the weakening of the rupee over the years, and the trade deficit has now risen to a record $31 billion from almost zero at the beginning of independence, mainly due to the high cost of oil imports,” said Gaurang Somaiya of FX and FX . Bullion Analyst, Motilal Oswal Financial Services.
“We expect that rupee could continue to fall against the US dollar going ahead, but the pace of depreciation could be getting slow following a massive war chest build by the RBI in the reform of foreign exchange reserves,” Mr Somaiya added.
Even though the falling rupee may not benefit the entire economy, a devalued currency has its merits as it aids in boosting exports.
Since the economic reforms of 1991, the rupee has been depreciating at the rate of 3.74 per cent on CAGR (compound annual growth rate) against the US dollar because of inflation and interest rate differential between the US and India, said Dilip Parmar, Research Analyst at brokerage house HDFC Securities.
Between 2000 and 2007, the rupee stabilised to an extent, led by substantial foreign investments flowing into the country but later declined during the global financial crisis of 2008.
“Further looking at the past, we see major depreciation started from 2009 onwards, from 46.5 to now at 79.5, 4.3 per cent CAGR as compared to almost unchanged from 2000 to 2009, from 46.7 to 46.5,” Mr Parmar added.
The US dollar, the reserve currency of almost all countries, is detrimental to other currencies, especially in times of sharp volatility in financial markets, as it weakens peer currencies.
Since the cost of imports becomes higher, domestic inflation may be triggered, which in turn may reduce purchasing power in the economy.
Rising costs of imports may also increase the current account deficit (CAD). For April-July 2022, India’s trade deficit stood at $100.01 billion.
A widening trade deficit also contributes to the weakening of the rupee.
For the record, the Indian rupee in July slipped below the psychologically important level of 80 against the US dollar for the first time as high crude oil prices amid tighter global supplies boosted demands for the US dollar.
There is, however, a silver lining.
SBI Research said in its latest report said an interesting development is taking place in the global currency market as there has been a significant jump in trade in oil and other commodities in currencies such as the Renminbi, Hong Kong Dollar, and Arab Emirates Dirham at discounted rates.
Coming to the share of the US dollar in global foreign exchange reserves, it has been shrinking since the start of the twenty-first century, falling close to 59 per cent as of the end of December 2021, from above 70 per cent two decades back.
The RBI also seems keen to reduce the dominance of the US dollar as it announced a mechanism to settle payments for international trade in rupees earlier this year, especially for India’s exports.
That mechanism may help in internationalising the rupee in the long run.