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Periscope Of Depreciating Rupee

Posted in Finance Articles, Total Reads: 2456 , Published on September 25, 2012

“It’s a recession when your neighbor loses his job; it’s a depression when you lose your own.” – Harry S. Truman.

Recession and Depression are soaring high above the heads with their wings spread wide apart. Globalization has interlinked the economies of all the countries in a beautiful tapestry where no country can be resilient to the ripples that spread out from a country whose economy has been hit. We are facing an abyss of global  recession where the Greece economy is tumbling in the face of Euro and a depreciating rupee is poking us to ponder over the reasons and consequences of all this.

It is a fact that all economies are suffering against US dollar and the Indian rupee is no exception to this general behavior. It is sweating at 55.3349 exchange rate against American dollar. But why is it also dipping in the image of Euro which is itself dwindling? Is it the government policies that are not able to satiate the drooling rupee? The cause can be a mix of both. The crisis of Europe has led the investors and financial institutions to exchange Euro for the American dollar. This is supposed to be the major reason behind the fall of major currencies in the image of dollar. In this burning cauldron of recession,the value of rupee is getting boiled down with the spices being that of stagnant economic reforms and increasing current and fiscal deficits of our country.

The impact is strong and pronounced in the form of increasing import bills, fiscal slippage and cost of borrowing. The value of import bill of India is on the rise, as the total imports now amount to a higher sum of rupees as compared to the US dollar. Fiscal slippage on the other hand is a measure of the consumption of the government. The fiscal deficit target for the present year was first set to 4.9 percent of GDP (Gross Domestic Product) but later on it was revised to 5.9 percent of GDP in March,this year.

This is attributed to the falling rupee, and it confirmed the presence of significant fiscal slippage. Fiscal slippage poses a threat to both inflation management and macroeconomic stability. The cost of borrowing is the other impact of this depreciation. The interest rate differentials in domestic and global markets encourages the industry to raise money through foreign markets, however a fall in the rupee value would increase the cost of borrowing and will negate the benefits of doing so.

India is an economy which accumulates huge imports under its belt, every year.The top imports of Indian economy are petroleum and products, coal, Iron and steel, fertilizers etc. These imports are not just to fulfill the desires of the bloated population, but are the fuel to the ever expanding industries of India. Petroleum products being one of the largest imports have always been the deepest drain of Indian rupee. And with the decreasing value of Indian rupee, the drain has become deeper over the year. The crude oil prices around the world have decreased over the period of May,2011 to May,2012 but this has not resulted in reduction of petrol prices in India.

In contrast to this, May 24th, 2012 shrank the ground beneath the Indian population feet, when the petrol prices went rocket high with an increase of Rs. 7.54.This might be the precipitation of Pranab Mukherjee’s budget speech in which he had hinted the hike that was then lingering on the horizon. The increase in fuel prices became imminent when a lid was put on the total subsidies provided by the government on all goods and services (Two percent of the Gross Domestic Product of India). The subsidy cuts and fuel price increase,were important and inevitable measures that were taken by the Indian government to curb the fiscal slippage that was becoming more and more ferocious with the passage of time.

The increase in the cost of imports will further fuel the problem of inflation that has been a dead albatross around the neck of the Indian government. With fuel prices touching the glass ceiling of middle class tolerance, the cost of commodities has been on a rise ever since.The RBI has time and again stated that inflation is inimical to growth and on 30th July it finally brought down the SLR to 23 percentage points in order to increase the liquidity in the market. This is an attempt to put a leash around inflation and pampering the growth of the country at the same time. Fertilizer industry which imports about 50% of its raw material requirement, is taking a sluggish walk towards the unknown.It is among the biggest losers in this trade. Fertilizer industry does not enjoy the luxury that follows the oil industry.

Oil being a necessary commodity in the GDP generation of the country, is always in demand. Whereas with the prices of fertilizers going up, the consumption will go down which will result in the two-fold lurking consequences to take their shape viz. the revenues of fertilizer industries going down and the agony of agriculture sector taking an upturn. Fertilizer industry has shown a proliferation in prices for the period May, 2012 to June, 2012, which has resulted in the drop of its consumption by the farmers. The other areas affected by the sinking of Indian rupee, is the area of foreign education. Because of the soaring exchange rates, we can expect a volte-face from the bunch of students who were having foreign education on their mind. Yet another area of concern is the drop in the employment opportunities in the country due to the industry slowdown.

With the dark clouds of recession ramming the sky of growth and prosperity, there is a silver lining beaming at the horizon in the form of industries that have benefitted with this downfall. This known devil of depreciating rupee has presented itself as an unknown angel to the beleaguered IT industry. The IT industry, whose operations are pivoted around the overseas markets, is supposed to be the biggest gainer out of this plummeting economy.The way Infosys has shown results in the previous quarters, it surely needs a catalyst like this to thrive. The kink in the armor of the IT industry will be the increased costs like travel, power and general capital expenditures also going up at the same time. The other industries that are stretching on the hammocks of their increased revenues are the export dominant industries of India comparable to the likes of textile industry, hotels and tourism industry.

The textile industry will gain in the current forex environment with the easing of cotton yarn prices and improved export realizations. With the appreciated dollar, more and more tourist will like to visit a country that will be a cheap holiday destination for them.Take for example, a holiday package in Kerala backwaters costs around Rs. 200,000 for 10 days stay. When the American dollar was quoting at Rs. 45, this holiday would have cost around $4400. With the current exchange rates quoting the American dollar at Rs.56, the same holiday package would cost $3500, a whopping $900 cheaper! On a smaller scale, niche group of NRIs who regularly remit funds to their relatives residing in India, are opportunely reaping the benefits of the present times.

Conclusively, the depreciation of rupee is a curse for the import oriented industries whereas a boon for the export oriented industries. But with petroleum being the driving force of any economy and India having the petroleum products as their biggest imports, some quick measures are required to escape the paralysis of our economy at the dictatorship of US dollar. The downfall has a self-stabilizing factor associated with it, but it’s not the time to wait for the status-quo to change on its own.

It is the need of the hour for the government to implement GST (Goods and Services Tax) along with GAAR (General Anti Avoidance Rule is scheduled to come into effect from 1st April, 2013 after the incorporation of all the modifications)and provide the corner stones for a stronger economy in the times to come. GST being a centralized taxation system will integrate India under the umbrella of unified tax rate. Whereas GAAR is a night watchman to target the tax evaders in an attempt to curtail the laundering of money, partly by stopping Indian companies and investors from routing investments through Mauritius or other tax havens for the sole purpose of avoiding taxes. It is high time that the government tries to smooth down the wrinkles from the face of the foreign exchange markets.

We are facing the tough times of government slipping into a black hole of policy paralysis and the dipping stock market. The light coming through the end of this dark tunnel is the ray of hope of better times to come.

This article has been authored by Shailesh Choudhary from IIM Udaipur and  Sandhya Menon from TCS.

Image(s): FreeDigitalPhotos.net

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