The Falling Rupee

A couple of weeks ago a friend of mine asked if I had noticed anything about the SEA economies, such as Malaysia where I live, slowing down. I hadn’t really given it much thought, but since then have kept an eye on the news. The crash of the Rupee has been one of the biggest economic stories lately. A number of things have caused this fall in currency.

Manmohan Singh, the prime minister, addressed parliament on the matter. While part of the currency slump is a “natural” correction to reflect high inflation, he said, “foreign exchange markets have a notorious history of overshooting. Unfortunately this is what is happening”. I would agree with that a bit, but the recent vote on Syria, the US potentially unwinding QE have certainly also had an impact as reasons why the currency is fluctuating and falling recently.

India has long wrestled with inflation. With a reluctance to increase interest rates to tame the inflation, which could further reduce growth (already fell 0.4% this quarter), India has to try to find other ways to appreciate the currency and slow inflation.

The central bank of India could raise interest rates which would attract foreign investors to come back, as they are now fleeing, which would raise demand for the currency and cause it to appreciate. However, this would also harm domestic industry. An expanding AS would cause a decrease in overall price levels and increase GDP, but it has been pointed out that India does not have a sector which could show that kind of growth in the short term even with the export growth one might enjoy with a weaker currency. That would potentially help with India’s current account deficit.

Unfortunately I don’t think there is an easy answer as the country is facing. There is somewhat of an impossible trinity here in that India cannot have control over all the currency value, monetary policy, and the free movement of capital. So far the new chairman, Raghuram Rajan, has expanded borrowing limits for banks. I can see that this might keep interest rates low allowing the economy to expand, but won’t this also cause further inflation and depreciation of the currency? In the meantime, at least it is good for some people who could stand to gain from this.