The recent management of the rupee-dollar exchange rates by the Reserve Bank of India (RBI) has attracted enormous comment in the media. The common theme of all the commentators is that there is a disjoint in monetary policy and that both the finance ministry and RBI appear to be tackling the issues somewhat half-heartedly.
At the core is the issue of considerable inward capital flows, likely to be exacerbated by the interest being shown by funds and investors overseas in initial public offers (IPO), investments in venture capital, and the like. If one adds the corporate external commercial borrowings (ECB), there is a flood of inflows. As RBI sterilizes, the resultant additional liquidity is bringing overnight call rates to near zero. If RBI does not sterilize the inflows, the resultant appreciation of the rupee is seriously affecting exporters, increasing imports, making manufacturers choose imported inputs over local, affecting domestic production, and leading to growing current account deficits.
In these troubled waters there are several fishermen. Two types are visible. The academics and the economists are arguing vehemently over the validity or otherwise of the actions, in this juicy debate on monetary policy. Allow the rupee to appreciate, import goods to relieve supply-side constraints and thus control inflation, argue some. Why is RBI sterilizing at such a cost, and how long can it do so, argue others.
The other fishermen are those that expect this volatility to lead to some commercial gains. There are those who argue for early capital account convertibility, others who think currency futures would be a great idea provided that it is regulated according to their wishes, and yet others who think that this is an opportunity to encourage industry to invest overseas.
Apart from these interested comments, there is little analysis on how this would affect the overall growth rate, the economy and in short, the people.
First, there is sufficient anecdotal evidence that exports are hurting. Several textile exporters are refusing winter orders, and even the IT industry has reported that margins are getting squeezed. Tata Consultancy Services has announced recruitment of 5,000 people in Mexico, employment that could have been provided here. Every day one reads of industry investment choosing China, Vietnam and even Romania over an alternative in India. To believe that all is well, would be quite foolish. Employment in the manufacturing sector is essential, as the service sectors are absorbing only a minuscule number of the workforce, those with special skills. It is only recently that manufacturing in several sectors has become internationally competitive, and that exports have been growing at a very healthy pace. This should not be lost. The first concern is the impact on growth in employment.
Second, to those who argue that supply-side constraints are being tackled by greater imports and thus helping to control inflation, the real worry is about prices of those items that are not imported—the prices of foodstuff, for example, and oils and pulses and vegetables. Land prices are over the top, and the recent IPOs in real estate will make it even more so, as overseas money fuels the high prices.
Flat prices are in millions, and are no longer for the middle class. There are worries that, in the absence of attention to agriculture, availability of foodgrains per capita is set to decline, and India will be a great importer of food in years to come. The cheaper dollar will not address these concerns, and several people have pointed out that inflation at a fairly high level will remain.
The third concern is about current account deficits. The capital flows are masking the real impact of the trade deficits. If, in the long run, we are to be an energy importing country, a foodgrain importing country as well as an importer of manufactured goods, the only way we can pay for these is by exporting manpower. Interestingly, the policies are actively encouraging industry to locate overseas by allowing over-the-top ECB, and even announcing that foreign exchange reserves can be used for overseas acquisitions. How does all this improve my GDP per capita? An analysis of the Tata-Corus deal indicates that the liabilities, risks as well as the benefits are all offshored. So how do we gain?
If there are so many concerns to my unintelligent mind, why are these actions persisting? First, perhaps those who benefit from these policies, the second kind of fishermen, would like these to continue. No cap on ECBs, easy inflow of capital (with little trace of whether it is used productively or not), and let RBI/government bear the costs. Second, because this suits the politics of the day, it is important to keep up a buoyant image, not to express concern over capital inflows, current account deficits and excess liquidity, at least for another year and a half until the elections. The third, most worrying, is that those in charge of actions, do not know what to do, as this is the kind of crisis that they have not encountered before. One notices the tiredness of RBI, and the lack of reaction in North Block. I think we are juggling too many balls, and if the rupee rises to around Rs35 by this time next year, with low foodgrain stocks and high inflation, we would have fallen flat on our faces.
I hope this will not happen.
S. Narayan is a former finance secretary and economic advisor to the Prime Minister of India. Comment at email@example.com