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Why Indian rupee is deprecating, measures to control it
Introduction: Depreciation in rupee has become a big worry for the Indian Government and breaking news for the news channels these days. Rupee has declined to its peak level in the month of July, 2013 and is expected to continue in coming days.
What is exchange rate or conversion rate: Each country has its own currency and when we convert currency of one country with that of another country, it is called conversion rate or exchange rate between the two countries. For example- 1USD= INR60 which means if we convert 1 USD in INR we will get Rs.60. The conversion rate fluctuates on timely basis based on various factors such as demand and supply of each currency, inflation rate in country, interest rate prevailing in the country etc.
What is currency Appreciation and Depreciation?: Appreciation in any currency means when we exchange that currency with another currency, we will get more foreign currency or we need to pay less home country currency. On the other hand depreciation in a currency means when we exchange that currency with another currency, we will get less foreign currency or we need to pay more home country currency. For example: Few months back, 1 USD= INR 45 which means for each 1$, we need to pay INR 45.While in current situation, 1USD= INR 60 which means for each 1$, we need to shell out INR 60. Thus we need to pay more INR compared to previous situation. Thus in this case, rupee has depreciated and USD has appreciated.
Reasons for Depreciation in rupee:There are various reasons for depreciation in rupee such as:
1. Current Account Deficit: This situation arises when a country's' imports are more than its exports. Due to which it needs to buy more foreign currency to pay off the debts. Increase in the demand of foreign currency will ultimately reduce the value of that country's currency. India is facing a high current account deficit these days which led to fall in rupee value.
2. Inflation: It is one of most crucial factors in determining the currency exchange rate. We are experiencing very high inflation rate in India now. This will decrease the purchasing power against other currencies and will lead to depreciation of the Indian currency.
3. Political Paralysis: In last few months, we have seen various corruption issues. The parliament is not functioning properly due to which several important Bills are pending. The Government is not able to make any firm decisions relating to investment and finance to attract investors. Due to political paralysis in country, the investors have taken a back seat which affected the inflow of funds and thereby led to depreciation in rupee.
4. Recession in Euro Zone: The effect of recession in Euro Zone has been seen in Indian market also. The investors are selling Euros and buying Dollars which resulted in high demand for dollars and thereby increase in value of dollar.
5. Negative remarks of credit agencies: The major credit rating agencies such as Finch, S&P etc. have given negative remarks for India which made many foreign investors to stay away from investing in India for time being which resulted in reduction in inflow of foreign currency and thus depreciation in the value of rupee.
Effects of depreciation in rupee in India:
1. Value of imported items such as laptops, mobile phones crude oil, motor cars etc. will increase as imports become dearer.
2. The current account deficit will increase due to the reduction in exports and an increase in imports.
3. Depletion in forex reserves.
4. The borrowing cost for the companies will increase.
5. Studying and travel abroad will cost more.
6. Deprecation in rupee is good for companies which are billing to its customers in dollars.
7. It is good for employees who are abroad and getting salary in dollars.
Measures to control fall in rupee:
1. Allowing sovereign wealth funds, endowment funds and foreign central banks to invest in government bonds.
2. Raising the foreign investment cap.
3. Boost the slowing industrial growth.
4. More exports incentives and reduce imports.
5. Limit the foreign currency expenditure.
6. The RBI could persuade banks and financial institutions to raise funds in dollars abroad and lend them locally.
7. The government could review sectors such as defense, or revive pension and insurance reforms.
Conclusion: Depreciation in rupee is not a permanent phenomenon but it is due to various reasons, some of which are stated above. Since there are various internal as well as external reasons behind this situation, it is not always easy to make situation better in a blink of eye. It takes time to bring back the situation to the normal state. The RBI and other Government agencies are doing their best to tackle this situation.
Azad Singh Bothra
Devaluation of Indian Rupee taken place 3 times since 1947. In 1947 the exchange rate was 1 USD to 1 INR but today we have to spend 66 INR to buy a USD. Devaluation means reduction in the external value of the domestic currency while internal value of the domestic currency remains constant. A country goes for devaluation of its currency to correct its adverse Balance of Payment (BOP). If a country is experiencing an adverse Balance of Payment (BOP) situation then it has to devalue its currency so that its export gets cheaper and import became costlier.
Meaning of Exchange Rate:Exchange rate means the price of a nation’s currency in terms of another currency. The market in which the currencies of various countries are exchanged, traded or converted is called the foreign exchange market.
Exchange rate can be of three types:
1. Floating exchange rate
2. Fixed exchange rate
3. Managed exchange rate
Floating Exchange Rate: The system of exchange rate in which the value of a currency is allowed to adjust freely or to float as determined by demand for and supply of foreign exchange.
Fixed Exchange Rate: If the exchange rate is being determined by the government not by the demand and supply forces, it is called fixed exchange rate.
Managed Exchange Rate: In this kind of system exchange rate is partially allowed to fluctuate, government don’t allows fluctuation more than 1 to 3 percent. So in this system exchange rate is neither fixed nor free.
Par Value System: Under this system (1947-1971), each member of IMF undertook to maintain the par value of its currency in terms of gold or the U.S. dollar.
After gaining independence, India followed the par value system of the IMF. On 15th August 1947 the exchange rate between Indian rupee and US Dollar was equal to one (i.e., 1 $= 1 Indian Rupee).
In terms of currencies, the exchange rate was pegged to pound sterling at Rs. 13.33 or Rs. 4.75/dollar in Sept. 1949. This was remained unchanged till June 1966, when the rupee was devalued by 36.5% to Rs. 21/pound or 1$ = Rs. 7.10. This system continued till the 1971, when the Bretton woods system collapsed with the suspension of convertibility of the dollar by the USA.
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Why value of Indian currency declined against US dollar:
At the time of independence, there were no outside loans on the balance sheet of India. But when British departed from India, Indian economy paralyzed in the absence of capital formation and proper planning.
1. Lack of Fund in the hands of the Government: In the situation of wealth crunch, Prime Minister Nehru adopted model of five year plans from Russia. Between1950s to 1960s, Indian government continuously borrowed foreign money in the form of loan. Now the exchange rate became 1$= Rs.4.75
2. War with China and Pakistan: Indian government was facing budget deficit and was in a state that it could not borrow more additional loan from outside due to negative rate of savings. India- China war of 1962, Indo-Pakistan war of 1965 and huge drought in 1966, crippled the production capacity of the Indian economy so inflation increased in the economy.
To increase the domestic production scenario, Indian government needed technology , to have technology and to tackle higher inflation and to open the Indian economy for foreign trade, government devalued external value of rupee and now
exchange rate became 1 $- Rs. 7.
3. Political Instability and Oil Shock of 1973: Oil shock of 1973 caused when the Organization of Arab Petroleum Exporting Countries (OAPEC) decided to cut the crude oil production which further increased the oil import bill. So to pay this import bill India borrowed foreign currency which reduced the value of Indian currency. Assassination of P.M. Indira Gandhi also reduced the confidence of foreigners in the Indian economy. Hence all these cases bring the exchange rate at USD = 12.34 INR in 1985 and in the 1990 it became to 1 USD = 17.50 INR.
4. Economic Crisis of 1991: It is claimed as the toughest time for Indian economy. During this phase fiscal deficit was 7.8 % of GDP, interest payment was eating 39% of the total revenue collection of the government, Current Account Deficit (CAD)was 3.69% of GDP and WPI inflation was hovering around 14%, India was about to be declared defaulter by the international community. So to tackle all these problems government devalued Indian currency again and the exchange rate became 1 USD = 24.58 INR
5. Other Reasons: Experts are saying that the value of Indian rupee has not depreciated but in fact the value of Dollar has appreciated due to expectations against US that US Federal Bank might increase the interest rates. Other reason includes...
• Inelastic import bill of petroleum products
• Import of gold in huge quantity
• Import of luxury goods
• Nuclear test: Pokhran-II
• Asian financial crisis of 1997
• Global Financial slowdown of 2007–08
• European sovereign-debt crisis (2011)
All these factors caused that the value of Indian currency is hovering around 1USD= 66 INR in 2016. The exchange rate of Rs. vs USD since 1947 till 2015 is given in the table below:
Indian currency history tells that devaluation of Indian Rupee helped Indian economy in every crisis. Devaluation of currency makes export cheaper and import costlier which ultimately improves the Balance of Payment of the domestic country.
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