It’s not only lemmings which jump off a cliff. Economic pundits also do.
Open the financial newspapers, tune into any business channel and the message is tiresomely similar: arrest rupee depreciation and all will be fine.
What’s the logic behind the chorus? And is it in our interest?
The argument against a weak rupee is straight out of Economics 101: it will increase inflation because imports become more expensive. But what do we mainly import? Energy. And energy is consumption, not investment. This ‘mincemeats’ the brazen explanation that the current account deficit (CAD) is a virtue, arising out of ‘our investment exceeding saving’ and masks the scary fact that we have become a ‘borrow, import and consume’ economy. Of course, the rupee’s fall will increase the prices of goods with high import content.
The devil lies in the rocketing costs of oil imports, both because of rising dollar prices and rupee depreciation.
A sensible Government would not interfere with market outcomes. After all, do we not want to consume less oil?
Yet, it’s precisely this process that Government scuttles by intervening in the forex market and tightening liquidity to support the rupee. A desirable, price-driven demand correction of a scarce resource — energy, forex, whatever — is stymied.
A lower rupee exchange rate is a big help for exports and the best way to reduce the CAD. Shoring up an unviable rupee impedes this as well. In fact, research doesn’t prove any invariable correlation between currency depreciation and inflation. Declining inflation has coexisted with a declining dollar, contrary to theory.
Considered ‘macho’
It is clear that Government and the RBI should have never allowed a sub-Rs 40 rupee in the heyday of capital flows overwhelming the current account. Besides, Indian inflation was always more than in the West — our principal markets. Those who now advocate rupee defence, fearing inflation, didn’t find anything inconsistent in rupee strength amidst an adverse trade balance. A strong currency was considered ‘macho’.
Of course, there are other explanations. The CAD management strategy seems to be to maximise sovereign, bank and corporate borrowings both in foreign currencies and foreign investment in equities and rupee bonds. The latter is no attraction if the Indian currency depreciates more than the higher domestic interest rate. The emphasis on stabilising the rupee makes sense only if we want foreign portfolio investment at any cost.
The other day one saw a financial news channel interviewing the grand old man of Indian economic advisers and the icon of the Indian IT industry on CAD. The veteran economist saw more foreign borrowing (‘max out our credit cards’) as the answer. The IT pioneer was clear exports are the lasting solution.
The difference between trying to borrow our way out and energising the real economy for real growth.
(The author is a Chennai-based financial consultant.)