Why is it in the news?
1.The Indian rupee slumped to 49 paise to breach the 87 mark against the US dollar on the last Monday. This downward value of rupee was on account of the meltdown of currencies of the most emerging market currencies and stock markets across Asia and Europe when President Donald Trump imposed higher tariffs on Canada, Mexico and China. He also talked about reciprocal tariffs. This led to the adverse market sentiments all over the world.
2.It should be noted that in November 2024, the value of rupee was 84.36 rupees vis-a-vis one USD. Within a short span of three months Indian rupees further slid to 87.12 rupees per USD.
[Source: The Hindu]
Causes of falling of Indian Rupees vis-a-vis USD
1. Dollar index has been high over the last couple of months. The dollar is appreciating. Dollar index is pretty high against all currencies not only of emerging markets but even with the developed countries. The dollar index has picked up again and is above 109. The dollar index is a measure of the value of the US dollar relative to a basket of 6 major foreign currencies. These major currencies are Euro, Japanese Yen, British Pound, Canadian dollar, Swedish Krona and Swiss Franc. When the dollar index rises, it means the USD is strengthening against these currencies. A strong dollar makes imports cheaper for the US market but can hurt emerging markets like India and imports become more expensive. Thus, a rising dollar index often leads to rupee depreciation. The strengthening of the US dollar has been due to high interest rates which attracts global investors. Rising US treasury yields attract investors to prefer US bonds over emerging market assets, leading to the capital outflow from India.
2.Secondly, rising prices of crude oil has increased the demand for USD, thereby putting pressure on the Indian rupee. It should be noted that India is dependent on foreign countries for 88% of its energy needs. Since, trade in crude oil and LNG (Liquified Natural Gas) is done in USD, any increase in the prices of these commodities put pressure on Indian rupees and raise the demands for more USD.
3.Thirdly, geo-political tensions like Ukraine-Russia War, Israel-Hamas War in the Middle East, protectionist policies adopted by developed countries and slow global trade reduced the confidence of investors in the emerging markets like India.
4.Apart from global factors, there are domestic factors which cause weakening of rupees vis-a-vis the American dollar. These are -
Trade deficit - India imports more than exports. This leads to an increase in demand for USD and weakening of rupees. Export in merchandise trade reached USD 284.31 billion and service trade reached USD 215.98 billion between April to October 2024. While imports of merchandise goods stood at USD 486.73 billion and import of services reached USD 114.57 billion between April to October 2024 [Source : PIB]. Thus, there is a trade deficit of USD 101.01 billion in the above period.
High inflation in India reduces purchasing power of rupees and thus, weakens confidence of the investors.
Slow down in FDI and remittances further decreases the supply of USD.
Outflow of foreign portfolios further weakens rupees and increases demand for buying USD. In 2024, foreign portfolio investors withdrew approximately $9 billion from Indian equities.
Fiscal deficit and government borrowings - a high deficit often leads to higher borrowings which increase inflationary trend in the economy leading to the weakening of Rupees. That’s why the government has set the target of achieving a 4.4% fiscal deficit of the GDP in the current budget of 2025-26.
What should India do to arrest the slump of rupees ?
1. India needs to strengthen its exports by diversifying its trade agreements with emerging markets of the world.
2. RBI should intervene whenever there is volatility in the market to arrest the fall of rupees vis-a-vis the US dollar.
3. More emphasis should be given on foreign direct investment because it entails long term investment rather than on Foreign Portfolio Investment which is only for short term investment.
4. Domestic institutional investments should be given more priority over FPI and FDI so that DIIs can offset the loss of money on account of outflows of FPI.
5. There is a need to raise vocal for local so that indigenous production of goods and services gets priority over foreign goods and services. Moreover, India needs to become a manufacturing hub like China so that its dependency on imports is drastically reduced. More emphasis should be given on renewables so that rising import bills on crude oils and LNG are reduced.
6. Fiscal deficit should be reduced so that inflationary trend in the economy is checked. This is why the current budget of 2025-26 aims at keeping the fiscal deficit at 4.4% of GDP.
Conclusion
India should seek alternative methods in international trading. Instead of depending upon USD, it should explore ways and means to trade in local currencies as it had done with Russia so that its dependency upon USD is further reduced. Moreover, India should strive for self-reliance in production of machinery, electronics, IT ,pharmaceuticals and renewables.
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