THE REASONS FOR THE DROP IN THE VALUE OF THE INDIAN RUPEE IN 2022

?AN OVERVIEW OF THE VOLATILITY OF THE INDIAN CURRENCY

The frequency and extent of change in the value of any country’s currency are known as the volatility of the currency.?It is generally measured by the change in the exchange rate between the respective country’s currency and most traded currencies like US$, Euro, etc.

Indian Rupee happens to be one of the most volatile currencies in the world.?India’s dependence on imported crude oil to satisfy national requirements is one of the primary reasons for its volatility.?Indian Rupees’ volatility brings cheers amongst one segment of the Indian economy while spreads gloominess amongst another segment of the Indian economy. On a macro level, the volatility of India Rupees also hits the net foreign exchange reserve, which can be termed as the barometer of a nation’s financial health. On a micro level, a volatile Indian currency is capable enough to keen an ordinary Indian Kitchen on tenterhook.?

The Indian rupee was said to be at par with the United States Dollar at the time of independence in 1947. From the 50s onwards, the Indian economy started showing signs of downfall.?The Indo-China war of 1962 followed by the Indo-Pak War of 1965 and then the drought of 1966 worsened the crisis. The Oil Crisis of 1973 witnessed the plummeting of Indian Rupees to Rs.8.10. All through the 80s, the Indian Rupee witnessed a freefall owing to a multitude of reasons.

The economic crisis of the 90s prompted the Government of India to devalue the Indian currency while keeping its internal value intact. This made its export market cheaper and its import market costlier. Till 1993, India followed the fixed exchange rate regime, where the incumbent government based on the domestic requirement, pegs the value of India Rupees against major tradeable currencies like the US Dollar, Pound Sterling, German Mark, Japanese Yen, etc.?However, post-1993, India adopted the floating exchange rate regime where the value of the Indian Rupee is set by the forex market based on the demand & supply of respective tradeable foreign currencies majorly the US Dollar.

During the first decade of the new millennia, Rupees were traded in the range of Rs.40 – 50, while in the second decade it was traded between Rs.60 – 70.?During the pandemic of 2020, followed by that of 2021, the Indian Rupee was amongst the worst performers in emerging markets. Finally, the Indian currency recently hit a record low of Rs.77 against the dollar. To sum up, the Indian currency has depreciated by over 77 times against the US Dollar in the past 75 years of independence.

India welcomed the year 2022 hoping that this year would be bringing some sanity to the economy, which had a roller coaster ride during the previous two pandemic years.?It was a sedate beginning for the Indian Rupee in terms of its value.?The Rupee ended at Rs. 74.55 on 31st December 2021 while the value was around Rs.74.89 by the end of January 2022.?Come February 2022, the value of the India Rupee started showing signs of volatility and it breached the Rs. 75 per US Dollar barrier.?The month of March witnessed a further drop in the value of the Indian Rupee.?April 2022 witnessed the Indian Rupees cross the Rs.76.50 march.?On 9th May 2022, India Rupees slumped further and breached the Rs.77 per US Dollar mark and ended at Rs. 77.54 a record low against US Dollar.

For the last couple of weeks or months, the Indian Rupees have been witnessing a free fall in terms of their value.?It has been predicted by some of the industry experts that the US Dollar to Indian Rupee exchange rate might be breaching the Rs. 79 marks by end of 2022.?This outlook toward the Indian Rupee is indeed a bearish one which will lead to weaker domestic consumption, higher energy cost, and inflation hitting the roof of the middle-class Indian population.???

A devalued Indian Rupee would make imports very expensive.?Especially the import of crude oil which is imported to meet two–thirds of India’s domestic requirements.?Another commodity that gets hit badly is edible oil and India is one of the top importers.?The costly import of edible oil would lead to higher food inflation.

Under such an unprecedented situation Reserve Bank of India (RBI) usually unleashes a slew of policy options to arrest the depreciation of the Indian Rupee against the US dollar.?Reserve Bank of India allows the Indian banks and financial institutions to ramp up the dollar deposits; the foreign investors are given the option to enhance their domestic debt limits; applies the breaks on non-essential imports by the imposition of higher duties; and encourages the exporters to bring back dollar proceeds, etc.

Following are some of the reasons that caused the devaluation of the Indian Rupees by almost 4% against the US Dollar.

(A) Russo-Ukrainian War

The Russian-Ukrainian posturing dates to 2014 and culminated in Russia invading Ukraine on 24th February 2022. This event has caused a great amount of geopolitical imbalance. Most of the major economies-imposed sanctions like freezing of Russian assets, including that President Putin’s European assets, economic sanctions on Russian banks, and debarring them from the SWIFT messaging system.?These sanctions on Russia had their toll on the global market, especially on the volatility of currencies including the Indian Rupee.

The increase in the global prices of crude oil due to supply restrictions led to a burgeoning of India's oil import bill. The Brent Crude was pushed up to US$130 per barrel, thanks to the Russo-Ukrainian crisis. The worldwide increase in the essential commodities also added pressure Indian Rupee. The overall global uncertainty has led to a risk appetite of an already weakening Indian Rupees.

?(B) Depletion of Foreign Exchange

Foreign exchange is the indicator of any nation’s health. The most important pillar of the Indian currency market is its foreign exchange reserve which keeps checking the value of the Indian Rupee. Over the last couple of years, there has been sustained growth in the forex reserve, and it reached US$642 Billion in September last year.?However, the recent global developments led to the depletion of the forex reserve to US$597 Billion. This also happens to be the sharpest drop in the forex reserve in the last two years.

(C) THE EXODUS OF THE FOREIGN INSTITUTIONAL INVESTORS

One of the factors that bring buoyancy to the value of Indian Rupees is an investment by Foreign Institution Investors (FIIs) in the equity and debt market.?One of the reasons which make India one of the most attractive markets in the emerging economies is the high return on investment in comparison to other emerging markets.

However, the high inflation rate of about 8.5% led to the announcement of a hike in interest rate by US Fed by half a basis point to a range of .75% to 1%. This increase in the US Fed interest rate has rendered the Indian market a not so lucrative market. India’s $3.2 trillion stock market is currently witnessing an unprecedented foreign selloff. Since October 2021, Foreign Institutional Investors (FIIs), have sold off Indian equity to the tune of an estimated amount of US$8 Billion from the Indian equity market.?Under current disposition, the Foreign Institutional Investors (FIIs) are seen as the net sellers.

?(D) HIGHER INFLATION RATE

The pandemic-induced lockdown had its own peril on the global economy & India too had her fair share of economic tragedies.?Then came the US inflation rate and economic policy decisions which kept the global trends shifting. Higher global inflation would directly or indirectly result in an increase in domestic prices through dependency on imported goods and services. Besides these, the global inflation also rose because of the Russo-Ukrainian war & the renewed Covid-19 lockdown in China has put the world on a tailspin.

While our neighboring countries like Sri Lanka and Pakistan are looking down the barrel, the situation in our country too is not that rosy.

?(E) INCREASE IN US FED RATE

?The increase in the US Fed Rate witnessed a sharp increase in the US bond yields.?This has also resulted in the reduction of the gap between the Sensex yields and US Bond yields. This reduction in the gap has led to the exodus of foreign institutional investors (FIIs) from the Indian market and has put tremendous pressure on the value of the Indian currency.?The indications are there that US policy rates may soon scale up to 1.75 to 2.00 percent, leading to a greater global ramification. This will also have a bigger impact on emerging markets in Asia. It will certainly lead to furthering the exodus of overseas funds invested by foreign institutional investors (FIIs) causing exchange rate instability.?

?(F)?WIDENING CURRENT ACCOUNT DEFICIT

The current account deficit (CAD) is an important parameter that ascertains any country’s economic health and sustainability.?A bigger trade deficit indicates the nation’s reliance on foreign capital inflow, and it further weakens the nation’s currency.

The higher crude oil price has led to an increased outflow of US Dollars; India purchases the oil in US Dollar terms.?This hike in outflow has led to the widening of the current account deficit which resulted in creating an imbalance in the US Dollar – Indian Rupee exchange rate in simple terms, the Indian rupee has been further devalued.

India is undoubtedly passing through a phase that was never anticipated. It has been proven beyond doubt that external factors play an important role even in the day-to-day life of an ordinary citizen. India by the virtue of The Directive Principles of State Policy, as enshrined in the Constitution reflects that India is a welfare state and has been extending relief measures in the past.?It is almost certain that the announcement of some relief measures would be around the corner, which would be bringing a smile to the face of the most vulnerable section of Indian society.

The devaluation of the Indian Rupee does have a direct and lasting impact on the business which further impacts the Current Account Deficit.?Like in the past, this time too, the Reserve Bank of India, would be intervening in a timely manner to cool down the already heated up Indian Rupee.?

Sources :

1. Bloomberg
2. Times of India
3. Reserve Bank of India

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