The Falling Indian Rupee

Syllabus: GS3/ Economy

In Context

• The Indian rupee recently crossed the 85-mark against the US dollar, continuing a long-term trend of weakening relative to the dollar. A decade ago, this rate was ₹61, and it was ₹83 earlier this year.

Exchange Rate

• Definition: The exchange rate is the value of one currency relative to another. For instance, ₹85 per $1 means 85 Indian rupees are required to buy one US dollar.
  • When the demand for the US dollar exceeds the demand for the rupee, the rupee weakens, and the dollar strengthens.
• Function: It determines how much of one currency is needed to trade for another, crucial for international trade and investments.

Factors Responsible for Weakening Rupee

• Trade Deficit: India’s trade deficit widened to $26.83 billion in October 2024, indicating a higher demand for dollars to pay for imports. This contributes to the rupee’s weakness.
• Capital Outflows: Foreign portfolio investors have pulled out a net amount of Rs 43,856 crore from Indian markets in 2024 so far (until December 20th), putting downward pressure on the rupee.
• Stronger US Dollar: The US dollar index, which measures the dollar against a basket of major currencies, has risen by about 15% this year, reflecting the dollar’s strength and making other currencies, including the rupee, weaker in comparison.
• High Inflation: India’s retail inflation has remained above the RBI’s target range of 2-6% for most of this year, reaching 6.77% in October. This higher inflation compared to many trading partners can make Indian exports less competitive.
• Trade in Services: If Indians spend more on US services (like tourism) than Americans on Indian services, demand for dollars increases.

Impacts of a Weaker Rupee

• Costlier Imports: Crude oil prices have risen by over 10% this year, and a weaker rupee further increases the cost of importing oil, contributing to inflation and impacting household budgets.
• Debt Burden: India’s external debt stood at $620.7 billion at the end of June 2024. A weaker rupee increases the cost of servicing this debt, putting pressure on government finances.
• Outbound Travel: The cost of traveling to the US has increased significantly. For example, a trip that cost Rs 5 lakh a year ago would now cost around Rs 5.75 lakh due to the rupee’s depreciation.
• Benefits for Exporters: A weaker rupee can make Indian exports more competitive in the global market, potentially boosting export-oriented industries.

Steps to Strengthen the Rupee

• Boost Exports: The government is aiming to boost exports through initiatives like Production Linked Incentive (PLI) schemes. India’s merchandise exports grew by 10.3% year-on-year in November 2024, indicating some positive momentum.
• Attract Foreign Investment: The government has taken steps to improve the ease of doing business and attract FDI. India received $46.1 billion in FDI between April and September 2024.
• Control Inflation: The RBI has been raising interest rates to combat inflation. However, inflation remains a challenge.
• Diversification: India is exploring rupee trade with several countries to reduce reliance on the US dollar.

Conclusion

• The weakening of the Indian rupee is a complex issue with multiple contributing factors. While it presents challenges, it also offers opportunities for export-oriented industries. The government needs to continue its efforts to address the underlying causes, manage the negative impacts, and leverage the potential benefits of a weaker rupee.

Source: IE