Weak rupee caught in vicious flux
The rupee is trapped in a vicious cycle—where its weakness is leading to events further weakening the local currency against the US dollar. And the argument that despite the rupee’s weakness against the dollar it has been strengthening against the Euro, pound and yen, is of little comfort given the dollar’s dominance in international trade and financial markets.
Even though the discourse that a strong rupee signifies economic superiority is far from the truth, the recent slump in the rupee is worrisome as it has fallen by over 6.5% since the beginning of 2022. India’s currency has been falling against the dollar annually at an average of 2–3% in the past five years, and the recent larger-than-usual fall is only feeding into both inflation and trade deficit, key factors for further weakening of the rupee.
Of course, these are extraordinary times with the Russia-Ukraine war threatening to turn the world order upside down. The US and Europe are seeing inflation levels that were unheard of in the past three to four decades. The interest rates in these countries, which were maintained around zero for the longest time, are now increasing at a much faster rate, triggering an outflow of capital from emerging markets to safer havens. All these factors have added to a stronger dollar as investors prefer to park their money in dollar-denominated assets in times of uncertainty.
And while the government has been taking steps to enhance the rupee-denominated trade, it is merely 2% of the total trade value. On the contrary, 86% of India’s imports and exports are invoiced in dollars. And as IMF economist Gita Gopinath pointed out recently, it is not just international trade but the dollar dominates international finance as well.
RBI has been selling dollars to curb the rupee fall—and in the process has brought the forex reserve down from $642 billion to $580 billion. But it will have to let the rupee find its fair value, and wait for the markets to reverse the trend.