Why is rupee kept strong and who gains from it? - The Economic Times http://economictimes.indiatimes.com/news/economy/policy/why-is-rupee-kept-strong-and-who...

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Why is rupee kept strong and who gains from it?

BY T K ARUN, ET BUREAU | OCT 02, 2017, 11.57 PM IST Post a Comment

Not so long ago, people worried about the rapid loss in the value of the rupee; the boot
pinches on the other foot now (see the rise in the value of the rupee's exchange rate
against a basket of currencies, after taking out the effect of inflation, the so-called Real
Effective Exchange Rate, in the graphic below). The rupee is strong and its strength hurts
India's exports and thus overall growth and job creation. Why is the rupee kept strong and
who gains from it?

Those with large external borrowings gain from keeping the rupee strong. It helps the
government manage inflation and its budget. Domestic producers who have large
imported inputs would also gain from a strong rupee. However, exporters, workers looking
for jobs and overall economic growth lose out from a strong rupee. Exporters, workers looking for jobs & overall
economic growth lose out from strong rupee.

The stock market gains from the rupee's strength. It keeps foreign funds coming in, mostly
into debt these days, and the additional liquidity keeps stock prices high. Liquidity also Big Change:
The end of Five-Year Plans: All you need to know
helps rein in interest rates. Consumers gain from the relatively cheaper prices of foreign-
made phones, TV sets and so on enabled by a strong rupee. Consumers are not a homogenous group, however. Those with stable jobs
looking to increase consumption by borrowing money at cheap rates of interest are consumers.

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Why is rupee kept strong and who gains from it? - The Economic Times http://economictimes.indiatimes.com/news/economy/policy/why-is-rupee-kept-strong-and-who...

So are young entrants to the workforce who cannot find a job, and the hordes of
people who hold jobs now but face uncertainty over how long their jobs would last.
So, this is the picture that emerges.

The government is a gainer, in the sense that it is easier for it to hold down inflation
and the fiscal deficit, when the rupee is strong than when it is weak. Big industry, who
typically borrow abroad and import inputs, gain from keeping the rupee strong. Stock
market players gain.

Foreign investors, who can borrow cheap abroad, say at around 1% in Japan, and
invest that money in India's bond market, where yields are over 7%, gain from a
strong rupee — any decline in the rupee would depress the return on their so-called
carry trade, when calculated in foreign currency. Civil servants and others like them
with job security stand to gain, both as consumers and as borrowers. These gainers
represent the elite of society. Who are the losers from an overvalued rupee?

Exporters, whether of garments, information technology and outsourcing services,

those who seek jobs in these sectors, the small and medium enterprises, by and
large, and overall growth.

Why is the rupee so strong when export earnings are weak?

Essentially because foreign portfolio investments are gushing in. Net FPI in the debt
segment has been more than three-and-a-half times that in equities in 2017 so far:
Rs 34,352 crore in equities and Rs 1,29,863 crore in the debt market. The total inflow
this calendar year has been four times the net inflow in 2015 and 2016 combined.

And why is FPI rushing in at such a hectic pace?

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Why is rupee kept strong and who gains from it? - The Economic Times http://economictimes.indiatimes.com/news/economy/policy/why-is-rupee-kept-strong-and-who...

Because India has made more room for them in debt, particularly short-term debt. One
justification for expanding the room in the debt segment is that when FPI wants to exit
stocks — when stocks in the Sensex are trading at some 23 times the earnings per share, a
few sane FPI want to stay in equity — unless they are allowed space in debt, they would exit
India, reducing liquidity and putting downward pressure on the rupee. So, to keep liquidity in
the markets high, and, therefore, the Sensex, more foreign money is allowed into short term
debt, pushing the rupee up and exports and growth down.

At the root of the FPI attraction for India is its relatively high interest rate in a world of cheap
money and the policy of keeping the rupee strong. If the rate of interest comes down, a lot of
FPI invested in short-term debt would leave, and weaken the currency as well. RBI worries
this would lead to inflation. But inflation is a function of overall economic management by the
government.

Even when crude prices are down, the government keeps retail prices of petro-fuels high, so
that it can extract huge tax revenues and keep the fiscal deficit down. But the government
can keep the fiscal deficit down by persuading the states to not waive farm loans (what
matters for the economy is the combined deficit of the Centre and states).

There are other policy options before the government to manage the fiscal deficit, apart from
keeping petroprices low via a strong rupee. RBI must cut rates, curb FPI in shortterm debt
and let the rupee slide. This will redistribute income from the elite to the subaltern, and spur net exports, job creation and overall growth.

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Why is rupee kept strong and who gains from it? - The Economic Times http://economictimes.indiatimes.com/news/economy/policy/why-is-rupee-kept-strong-and-who...

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