Photo: Bloomberg
Photo: Bloomberg

Why 6/6/’66 was a devilish day for the rupee

The rupee was devalued dramatically 50 years ago in response to the first significant balance of payments crisis

Mumbai: The 6th of June is a noteworthy date in India’s currency calendar. Fifty years ago, on 6 June 1966, the rupee was devalued dramatically in response to the first significant balance of payments crisis faced by independent India.

It had barely been a decade-and-a-half since India had achieved independence. The economy, still finding its feet, had limited access to foreign exchange. Foreign investments were frowned upon and exports were negligent. The 1950s and the early 1960s were, therefore, years when India ran up high trade deficits. Foreign aid from rich nations was what came to India’s rescue.

Things got tough in 1965 as India and Pakistan went to war. Military spending skyrocketed, putting further pressure on the Indian government’s finances. At the same time, countries like the US, which were in those days aligned with Pakistan, withdrew aid from India.

With limited options, the Indira Gandhi-led government that followed in 1966 resorted to a steep devaluation of the rupee, in a decision that was widely criticized.

The rupee in those days was still pegged to the pound, which, in turn, was pegged to the dollar. The devaluation meant that the effective value of the rupee went from 4.76 against the dollar to 7.50 per dollar. That worked out to be a devaluation of 57%.

The Reserve Bank of India (RBI) documents 1966 as the second episode of rupee devaluation, the first being a consequence of a devaluation in the pound, to which the rupee was pegged.

“Consequent to the devaluation of pound sterling, rupee was automatically devalued to the same extent (as the pound sterling) on 18 September 1949. Rupee was again devalued on 6 June 1966 to correct the external payments which had reached a state of critical disequilibrium," says an RBI document.

“The measure was also resorted to with a view to maintain the existing exports by bringing about a better alignment between internal and external prices and, thus, giving exports greater competitive strength. Corresponding new rate of exchange was 7.50 to 1 US dollar as against the previous rate of 4.76," adds RBI.

A.V. Rajwade, a veteran risk and foreign exchange consultant, columnist and author, recalls the decision to devalue the rupee in 1966 as the first of “many unpopular decisions" taken by the government led by Gandhi. “There was a bias against foreign investment at the time which means the country was dependent on foreign aid," said Rajwade. “The devaluation didn’t work. It led to a spike in inflation and did little to help in the long term as it was not accompanied by any other reforms," added Rajwade, who now runs his own consultancy AV Rajwade and Co.

According to a 2002 paper, authored by Devika Johri and Mark Miller and published by the Centre for Civil Society, inflation levels went up from about 5.8% in the 1961-65 period to about 6.7% in 1966-70.

The data compiled by Johri and Miller shows the trade deficit did fall in the aftermath of the devaluation, although it would be tough to argue there was a sustainable improvement in India’s external economy, which went on to face another major balance of payments crisis in 1991. The data shows the trade deficit narrowed from a peak of 930 crore in 1965 to 100 crore in 1970, led more by a contraction in imports than a rise in exports.

Jamal Mecklai, another veteran of the foreign exchange markets, recalls he was in his teens at the time and says: “It was another planet" at that time.

“It is a date in history, but it is meaningless to compare what we were then and what we are now. In those days, transactions were in pound sterling and the market lot size was maybe £15,000. There were hardly any transaction and you had a good day if there were 10-12 transactions," said Mecklai, now chief executive officer of Mecklai Financial Services.

“1991 was obviously far more significant," he added.

Indeed, it was in 1991 and the years that followed that the real turning point for the Indian economy and the rupee was reached.

“1991-92 represents a major break in policy when India harped on reform measures following the balance of payments crisis and shifted to a market-determined exchange rate system," says an RBI document, which details the development of the foreign exchange markets.

“India has been operating on a managed floating exchange rate regime from March 1993, marking the start of an era of a market-determined exchange rate regime of the rupee, with provision for timely intervention by the central bank. India’s exchange rate policy has evolved over time in line with the global situation and as a consequence to domestic developments," says RBI.

These numbers help tell the story of how far India has come since 6 June 1966:

* The rupee, which was then pegged down to 7.50 against the dollar now trades at near 67 in an exchange rate system that is market driven.

* India’s current account deficit in fiscal 2016 is seen at a modest 1.5%.

* India’s foreign exchange reserves of more than $360 billion are enough to cover more than nine months of imports.

* India was the top destination for foreign direct investment flows in 2015.

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