CURRENCY DEVALUATION – WHAT DOES IT MEAN FOR INDIA

In the midst of an economic slowdown and stock market turmoil, in a frantic move, this week China devalued its currency Yuan relative to the US dollar, evidencing the fact that China’s growth is slowing fast. For consecutive 3 days, it allowed its currency to devalue over 4%, I think, with the core objective of boosting exports.

Before we jump into understanding the impact, let us quickly try to understand what is devaluation – It is a monetary policy tool, a deliberate measure to adjust a country’s currency downward, relative to other key currency. This tool is generally used by an economy to overcome its trade imbalance. The devaluation lets country’s exports become less expensive and competitive, globally. In turn, imports become more costly, indirectly promoting domestic production.

One another reason that can be attributed for this devaluation is that International Monetary Fund (IMF) is thinking of adding Chinese Yuan to its basket of global reserve currencies. China thought its Yuan need to be recalibrated to reflect fair value.

Having discussed the objective of devaluation, now let us understand how will this devaluation impact India?

Rupee depreciation – The devaluation has impacted the Indian stock market this week, which fell four straight sessions, though on Friday it bounced back by 500+ points. The rupee fell sharply and breached 65 mark. Analysts have suddenly started taking positions that rupee may soon hit 67 mark.

Interest rates may not come down soon – With rupee depreciation, imports become costlier, adding to inflation. This in turn will force the RBI to hold on to its key rates. This surely is going to delay the economic recovery.

Rise in Current Account Deficit (CAD) – Since India has trade deficit where the imports are more than its exports, I believe there is a fair chance that CAD will rise, which is not good for the country.

Dollar denominated loans and students going abroad – Companies having $$ denominated loans will have to pay more to service their debts. This is the busy season when students go abroad for their further studies. They will have to shell out more to procure US dollars.

Pressure on Exports – It is generally expected that depreciating rupee stokes export growth. But I have a contrary view. With global slowdown, which has been evident from falling crude, overlap of products and markets in India and China, certainly is going to have pressure on India’s exports.     

With the devaluation, the Chinese products will become cheaper and this will further lead to dumping of Chinese goods in India hurting the domestic manufacturers.

Prime Minister Mr. Narendra Modi in his Independence Day speech today, re-emphasized on the “Start-Up” to promote innovation and entrepreneurship and “Make in India” to promote local industry. I am sure these initiatives, if implemented in true spirit will certainly address most of the concern areas discussed above.

I look forward to your inputs and suggestions.