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Home > Business > Columnists > Guest Column > M R Venkatesh

Rise of the rupee: What India must do

June 19, 2007

Newsreports a few weeks back suggested that the GDP of India had crossed the trillion-dollar mark. The recent appreciation of the Rupee since January 2007 by approximately 10% helped reach the milestone far earlier than it would have been otherwise possible.

In short, at Rs 45 to a US dollar it would still be roughly $900 billion. At Rs 40 to a US dollar, the GDP of India now stands at $1 trillion.

Let us extrapolate these arguments mathematically on a 'linear scale.' At Rs 20 to a US dollar, India's GDP would be $2 trillion; at Rs 10 it would be $4 trillion, at Rs 5 it would be $8 trillion; at Rs 2.5 it would be $16 trillion and at 1 Rupee to a dollar it would be approximately $40 trillion.

That would be approximately 3.5 times the GDP of the US, which stands at approximately $12 trillion! With our population 3.5 times the size of the United States, naturally this would translate into an annual per capita income (and with it perhaps the lifestyle and consumption) that is close to the American per capita income. This explains in a nutshell the importance of exchange rates.

Put differently, the per capita income of Indians would be comparable with that of Americans that too in dollar terms. Obviously, what differentiates the income levels of two countries is the exchange rate, which, in turn, is based on a variety of factors, not the least being the productivity, perceptions and technological differentials.

For these very reasons, while it may be absurd to believe that a Rupee could be equal to a US dollar, it has to be noted that the current value of Rupee is equally bizarre. The truth, as they say, lies somewhere in between and it seems we are gravitating towards its natural value.

Nevertheless, an appreciating Rupee -- a near economic certainty -- throws up a new matrix for the Indian economy. As exports earnings, especially those denominated in dollars, come down and imports become affordable in Rupee terms, Indian business is all set for a new paradigm.

While the old order gives way to the new, it is quite important to note that those who are rooted in the past and are not dexterous enough to carry out the necessary adjustments are in for massive trouble. The moot question is whether India would seize the opportunity as it unfolds, prepare for the same and profit from it?

The Rupee has appreciated. Or has it?

What adds a different dimension to the debate on the precise exchange value of the Rupee is its recent appreciation in the past few weeks. Post-East Asian currency crisis of 1998, every Asian country -- including India -- has learned one lesson the hard way: no amount of forex reserves are sufficient to defend its currency in times of a crisis.

Consequently, every country is compelled to accumulate forex reserves. While this is partly psychological, this arrangement suited them strategically too as countries began acquiring the US dollar to keep the value of their national currency down to boost their exports.

Post-reforms, it may be noted that the exchange rate of the Rupee too is not purely market-determined, with the Reserve Bank of India [Get Quote] constantly intervening in the forex markets to 'guide' the value of Rupee, while ensuring that the Indian exporters do not lose out on their competitiveness.

These is done by RBI through a complex calculation of benchmarking the value of the Rupee vis-�-vis a host of currencies and taking into account their relative variations in their exchange rates across the globe and further adjusting it for other factors, such as inflation.

For the past two months period commencing mid-March and ending mid-May 2007, it is common knowledge that the Rupee has appreciated by approximately 10% against the US dollar. However, when we benchmark the Rupee with a composite 36-currency index, it has not shown any significant appreciation as many currencies many of which are India's competitors on the global stage.

This strange and complex paradigm -- a Rupee that appreciates vis-a-vis the US dollar, but does not lose its competitiveness -- requires a studied response.

Indian businesses need to work out a new matrix

Obviously, exporters must realise that the Rupee appreciation vis-�-vis the US dollar has surely resulted in loss of revenue but has not eroded their competitiveness as other currencies too have appreciated against the US dollar.

Another way of looking at it is to be conscious of the fact that the recent appreciation of the Rupee has more or less negated the recent spurt in crude prices.

But for it, we would have seen a hike in petrol and diesel prices. This would have naturally triggered another bout of inflation, leading to interest rate hikes, which would in turn have had a negative impact on the economy. Apparently, exporters have benefited from Rupee appreciation too.

Nevertheless, given this economic verity, it is important that exporters, in particular, and Indian businesses, in general, recalibrate their position. These include:

  • Consequent to Rupee appreciation, the net earnings of our exporters in rupee terms would necessarily dip. Exporters need to guard themselves against anti-dumping investigations that would necessarily follow in this new paradigm. Accordingly, an exporter has to perhaps conduct a comprehensive risk analysis of his exports to various countries, taking into account the probability of facing anti-dumping measures in those countries, and has to strategise his operations.
  • Our businesses need to rework their position in the value chain. As the Rupee appreciates, exporters must realise that 'brand India' has arrived. This means we cannot continue to export or produce products at the low end of the value chain. India, perhaps, needs to import such goods from other developing countries and concentrate on value-added products. This is possible as, with the appreciation of the Rupee, newer technologies become economical and accessible to Indian manufacturers.
  • Further, the changing paradigm calls for a re-look at domestic markets by exporters. To aid domestic consumption, the government too has to play its part. One factor that inhibits domestic consumption is the high incidence of indirect taxes -- we end up paying 16% to the central government and another 12.5% as VAT to state governments, aggregating to approximately 30% or one-fourth of retail prices. This is one of the highest in the world. Obviously, indirect tax reforms are crucial to boost domestic consumption.
  • Exports of services would apparently be hit due to appreciation of Rupee and salary levels in this sector may see a dip. But the rise in the intrinsic value of the Rupee compensates for the same. For instance, an Rs 50 tip to the waiter may do when Rs 100 would do today. An alternative that could be explored would be to bill in other currencies, perhaps in Euro, Yuan or Rupee.
  • Another area that requires deep contemplation by the business community is to re-compute their entire strategy on Special Economic Zones (SEZs) given these developments. It has to be noted that the success of the Chinese SEZs was aided and abetted almost close to a decade by a tightly pegged Yuan to US dollar. The entire economics of SEZs could undergo a tectonic shift in light of a sustained Rupee appreciation.
  • An appreciating Rupee makes foreign direct investment (FDI) into India attractive as it hedges such investments from exchange rate depreciation. On the contrary, it provides a further incentive through capital appreciation. This once again calls for a comprehensive strategic positioning to leverage the opportunity -- not only by exporters but even by others. Obviously, as an investment destination, India and perhaps China, with their booming stock exchanges and rising currency, could be the best bet for investments. Of course, one cannot forget investments in gold and real estate.

But are we prepared?

For long, we have been fixated with exports and implicitly subsidising it through a weak currency policy. In effect we subsidised the consumption of others. Yes, it is conceded that an export-driven model was necessary in the aftermath of the currency crisis of early nineties.

Nevertheless, such a policy has outlived its purpose especially when surplus foreign exchange is a problem by itself. Surely, while one is not arguing against exports, one suggests, as a strategic response to this dynamic situation that Indian businesses should have a comprehensive re-look at the domestic markets.

It may be not be out of place to mention that India is home to one-sixth of humanity. When exporters of other countries are looking at Indian markets in awe, primarily because of its size, Indian businesses can ill afford to ignore their own home markets. One crucial strategy not yet effectuated in our fight against the scourge of poverty is to improve domestic consumption. A rising Rupee precisely aims and abets this.

Finally, as we flex our economic muscle, Rupee appreciation would be a natural consequence. For, a currency reflects the brand image of a nation. As we keep our tryst with destiny, this process will accelerate further.

This may mean that the Rupee would be readily accepted as an international currency and, as a further fallout, Indians would be highly valued and widely recognised. After all, in the material world all that matters is hard power: military strength and currency value.

Yet the billion-rupee question is: Is the Indian government and businesses prepared to handle this responsibility and changed paradigm?

The author is a Chennai-based Chartered Accountant. He can be contacted at

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