Rupee Tumbles Further: India In A Vicious Economic Cycle

An ever-appreciating dollar and a nose-diving rupee has put India into an almost economic crisis, a situation that can be compared to that of 1990 when the country had to pledge its gold to IMF to fund its rising imports. Many would argue that the current situation is not too bad and we have ample forex to fund our imports, but the magnitude of change in the economic situation in the present era is beyond anybody’s manifestation. 

On the global platform, the scenario of the last 6 months can clearly be termed as unimaginable and shocking as we have seen the Japanese Yen tumbling from 75/USD to 100/USD within a span of 6 months riding on ‘Abenomics’ (term coined for the ultra aggressive policies of Japanese PM Shinzo Abe to pump in excess liquidity into the system). If such can be the impact of a government policy on micro and macro factors of the world’s 3rd largest economy, then the impact on India wouldn’t be any better. It is no wonder then that the INR has shed a whopping 7.7% since May 1, 2013.

“A Japan like situation is being replicated in case of the Indian Rupee as we are trapped in a vicious economic cycle spooked by the tumbling rupee and an ever increasing CAD. I will short the rupee at every stage with no bottom levels fixed for it”, quipped Jagannadham Thunuguntla, Head – Research, SMC global. The rupee continued its free fall on Tuesday (June 11, 2013), when it fell to a historic low of Rs.58.50/USD. 

If we try to gauge the future course of the INR, then the obvious threat now is the unwinding of debt in the Indian bond market by the FIIs. In fact, it has already started as FIIs have sold their booty worth more than Rs 15400 crore since May 22, 2013. This is a result of the US assets yield improving against Indian bonds and the arbitrage opportunity going away for foreign investors in Indian assets, considering the exchange loss they are suffering.

If this trend continues and the epidemic infects the equity market, then we will have a crisis like situation where the FIIs’ fund outflow will drag the rupee further down. “ As the US economy is showing signs of improvement fly of capital back to the US seems inevitable unless the government takes some proactive measures to attract investors. Foreign money into India is a compulsion and no more a choice for India”, warned Jagannadham. Another factor that is bound to put extra pressure on the INR is the much hyped reversal of quantitative easing (QE3) stimulus by the US Federal Reserve in an upcoming meeting on June 18. If the reversal takes place, it will certainly give further strength to the USD against the global currencies including the rupee.

Further, the worsening macroeconomic condition of India is fuelling the spiral. “The Indian CAD is way above the comfortable mark at around 5% and the recent decline in rupee will put further pressure on it as the import bill for fuel and gold will go up sharply. Along with this, there is a fresh threat of inflation striking back as imports, especially fuel, raw material and capital goods are becoming dearer”, commented Shivkant Vaish, a financial expert. This in itself annuls any hope of a rate cut by the RBI in its forthcoming monetary policy meet on June 17. In such a scenario, the economic outlook of India blackens further, adding to the pressure on the rupee in the near future. “In my view, it can go to even 60-62/USD in the short term,” informed Jagannadham.

This situation is playing havoc for companies that have taken a decent overseas debt exposure and haven’t been well hedged. Investors should be very cautious with their investment into such companies. On the government part, it is certainly a danger bell as some concrete steps are bound to be taken immediately to attract inflows and boosting exports. A threat of economic downgrade is looming large over as the Indian economy. “The government has already taken some steps to curb gold imports and contain expenditures but in the present situation, it is too small a step to help the economy. We have to think of increasing our inflows”, said Shivkant.