The RBI and rupee's last line of defence
There is a seductive clarity to economist and 16th Finance Commission of India chairman Arvind Panagariya’s argument. If markets want the rupee weaker, let it
There is a seductive clarity to economist and 16th Finance Commission of India chairman Arvind Panagariya’s argument. If markets want the rupee weaker, let it fall. Don’t waste precious foreign exchange reserves defending a number—even a psychologically charged one like 100 to the dollar. Currencies are shock absorbers. The Reserve Bank of India (RBI) should stop treating the exchange rate as a matter of national honour and start treating it as a macroeconomic instrument. The argument is clean. It is intellectually respectable. It draws on decades of mainstream economics and the endorsement of figures like Gita Gopinath, who has consistently urged emerging-market central banks to hold their fire rather than burn reserves defending arbitrary thresholds. Read Full Story In a narrow technical sense, it is not wrong. But it is dangerously incomplete. And understanding why reveals something important not just about India’s currency dilemma, but about the radically altered world in which that dilemma is being debated. Since the West Asian crisis intensified and crude oil prices surged, the RBI has mounted one of its most aggressive currency-defence operations in recent years. The rupee, which was trading around 93.98 to the dollar in March, briefly touched an all-time low of 96.96 on May 20 before intervention pulled it back toward the 96 range. Market estimates suggest the RBI has been intermittently selling between $800 million and $2 billion daily through spot and forward market operations to curb volatility. India’s foreign exchange reserves, which had touched a record $728.49 billion in late February, fell sharply as intervention intensified, dropping to $698.49 billion by April 24 and further to $690.69 billion by early May, before recovering modestly to $696.99 billion in the week ended May 8 after a rise in gold reserves. The central bank has also announced a $5 billion dollar-rupee buy-and-sell swap auction scheduled for May 26 to manage liquidity pressures arising from sustained intervention. This scale of defensive action has revived a question that periodically surfaces in Indian policy circles: is the RBI right to resist or is it simply delaying an inevitable and necessary adjustment? The pro-depreciation camp rests heavily, if implicitly, on the China precedent. Beijing maintained a deliberately undervalued renminbi during the 1990s and 2000s. Cheap exports flooded global markets. Manufacturing scaled at extraordinary speed. The strategy worked, spectacularly, by almost every measure. But this is historical reasoning applied to a fundamentally different situation, in a fundamentally different era. China weaponised currency weakness after it had already become a manufacturing colossus deeply embedded in global supply chains. It had massive domestic manufacturing ecosystems, local component production, integrated industrial clusters, and enormous economies of scale. By the time its export machine was running at full power, China had built the industrial depth to absorb and exploit a weak currency. It produced what it sold. It imported relatively little compared to the scale of what it exported. India’s economic architecture looks almost nothing like that. Many Indian sectors are, in reality, assembly economies rather than fully localised manufacturing ecosystems. The country imports nearly 89 per cent of its crude oil. Its electronics industry depends heavily on chips and components sourced from abroad. Renewable energy manufacturing relies on solar wafers and battery cells that must be bought overseas. Pharmaceutical exports, one of India’s genuine manufacturing success stories, remain substantially dependent on imported active pharmaceutical ingredients. Even the emerging electric-vehicle supply chain runs on imported lithium and battery materials. What this means in practice is brutal and immediate. A rupee at 100 to the dollar, compared to 83, raises the price of an $80 barrel of crude from roughly Rs 6,640 to Rs 8,000. That difference does not stay neatly inside an energy ministry spreadsheet. It bleeds into petrol and diesel prices, into freight costs, into fertiliser subsidies, into food inflation, into the aviation sector, into the disposable income of every urban household buying groceries or commuting to work.
The BriefWire