Business
| Previous
| Next
Clarifying ticklish exchange rate issues
By C. R. L. Narasimhan
The exchange rate policy has once again come into focus from the
beginning of last week. The rupee dropped to below 45 to the
dollar and continued to trade below that psychologically
important level.
It was not the first time that the rupee crossed that mark: that
had happened during the third week of July but only during the
trading hours.
Those who follow the external value of the rupee attach greater
significance to the closings than to intra day trading
quotations. That is probably why the scenario last week caused a
higher level of concern as compared to a week earlier.
There could be another explanation, this time from the policy
perspective. As is well known, the RBI intervened aggressively a
fortnight ago. On July 21 the central bank announced a strong
package, which included a hike in the Bank Rate and the CRR and a
drastic reduction in the refinance limits - all aimed at
curtailing liquidity and increasing the cost of borrowing.
The assumption was that the excess rupee resources in the system
were being used to build up speculative positions in the forex
market. A classic but quite elementary example of such a
speculative act is buying dollars and selling rupees that have
been borrowed (In any case they have a cost).
However, despite the perceived severity of these RBI measures the
exchange rate stability proved ephemeral. Even as the rupee slide
continued throughout last week, the RBI publicly stated that it
was not contemplating any new measures such as another Bank Rate
hike and so on.
A greater recourse to open market operations, again to check
liquidity, was definitely on. More significantly on August 3,the
RBI issued a statement on the current forex scenario
substantially clarifying certain persistent questions. The next
day the RBI Governor Dr. Bimal Jalan touched upon the same issues
at a press conference in Mumbai.
Losses and gains
While everyone is obsessed with the dollar-rupee levels, not many
pay attention to the rupee's equation with other major
currencies. Over a very recent time span, the rupee has
strengthened against the euro, while remaining steady against the
British pound. (The dollar's appreciation in terms of those
currencies is even more than its appreciation against the rupee).
Conclusion: Go beyond the dollar and look at other currencies.
The RBI puts it succinctly: it is wrong to say that the rupee has
hit ``an all time low''. Also, the RBI does not track the short-
term movements of the rupee by benchmarking it with indices like
the Real Effective Exchange Rate (REER - a trade weighted index
).
The oil effect
Much has been made of the deleterious consequences of the high
oil prices. The import bill has in fact gone up. But crude oil
prices were high last year too. (A barrel cost $25 last December
and only a dollar more on August 2 this year). However, the forex
reserves went up by $5.5 billion last year.
The RBI also points out that despite the high import bill and the
increase in non-oil imports in the wake of the industrial
recovery, the current account deficit is still below 2 per cent
of the GDP which is considered ``low and reasonable''.
Exports have perked up. However, during June and July there has
been a substantial outflow of FII money. But this has not
strained the country's reserves as seen by their steady accretion
by about $16 billion over the past four years.
Management of external reserves has been a challenging task but
one that has been successful considering the circumstances.
Implication: The rupee ought to be buoyed by the size as well as
management of external reserves and there should be no cause to
worry.
Since plenty of meaning is attached to the RBI's actions (or
silence) in the context of the fast moving exchange scenario, the
RBI has spelt out its stance. (1) It does not target a specific
exchange rate in determining its intervention. But the market has
come to expect that the RBI will intervene when the rupee-dollar
reaches a particular level.
If the central bank does not invoke tough measures, as for
instance when it fell below 45 to a dollar, there is some
confusion in the market. Hence the explanation. (2) Setting a
currency target or a range is counter-productive in a regime of
flexible interest rates. It leads to one way speculation. (3)
However, the RBI will constantly monitor market developments and
take appropriate steps. However, the latter ought not to be
construed as measures to defend the rupee at a particular level.
All the recent RBI measures are aimed at curtailing speculative
demand for foreign exchange and inter-bank speculation. However,
over the short run, it is possible that even genuine importers
and exporters can upset the demand-supply equation.
In times of uncertainty importers tend to bunch their
requirements, while exporters wait to get a better realisation.
Obviously the RBI will have to take all possible steps to correct
the sentiment.
Last week's forex market developments are significant in more
ways than one. It is hoped that the RBI clarifies the underlying
issues from time to time. One does not know whether the central
bank is in a battle to check the rupee's fall, but everyone wins
when elucidation such as those of last week are given.
Send this article to Friends by
E-Mail
|
|
