The contours of a rupee rise

The contours of a rupee rise
Comment E-mail Print Share
First Published: Tue, Sep 21 2010. 08 23 PM IST
Updated: Tue, Sep 21 2010. 08 23 PM IST
The rupee has started moving up again, reaching a four-month high. That marks a change from recent months, when the widening trade deficit had been cited as the reason for a weak rupee.
Portfolio inflows, of course, are behind the recent strength of the currency. The Reserve Bank of India has on several occasions said that capital flows could pose a problem for monetary policy. Even the International Monetary Fund, in a marked departure from its earlier stand, has said that emerging economies may have to look at capital controls if capital flows become too destabilizing. Brazil, for instance, instituted some controls after a wave of capital inflows drove up the value of the real. Is it time for India to think along similar lines?
At the moment, it’s too early to worry. For one, we have a large trade deficit. Though export growth has been stronger in August than in the previous month, the fact remains that the growth outlook for both the US and Europe is not very encouraging. In the circumstances, export growth may not be very robust. However, the growth in non-oil imports has been very strong. The growth momentum may be flagging a bit at the moment, but it remains at an elevated level.
A gross domestic product growth rate of around 8.5% or so is not to be sneezed at. Moreover, as companies start coming up against capacity constraints, they will go in for expansion—in fact, they have already started doing so, as seen from the strong growth in the capital goods component of the index of industrial production. Imports are likely to remain strong as a result. The net result could be that the trade deficit remains high. And if that happens, it will continue to offset some of the upward pressure on the rupee from capital inflows.
Yet another factor has been the weakness in the US dollar against the euro. The dollar index has fallen quite a bit from its highs in June, though it did rally during August. And finally, another reason for the rally in emerging market currencies has been the pressure applied by the US on China to let the yuan appreciate.
Of all these factors, the one that matters most is the strength of capital inflows. With valuations in the stock market already at high levels, it’s likely that capital inflows will be volatile. Moreover, with the advanced economies still mired in many difficulties, risk appetite too is likely to fluctuate wildly, affecting capital flows. In the circumstances, movements in the rupee are unlikely to be a one-way street. In short, unlike in 2007, capital inflows are unlikely to be a headache at present.
Is the rupee headed towards unstable highs? Tell us at views@livemint.com
Comment E-mail Print Share
First Published: Tue, Sep 21 2010. 08 23 PM IST