Starting sometime around April 2018, we saw the rupee starting to weaken against the US dollar. This was in line with major currencies and no one gave it much of a thought. But by August, the perceptions began to change when rupee touched the 70 mark versus a dollar. All of a sudden, investors sat up and took note
They suddenly started asking if it is really so bad – a falling rupee? Is it historically the worst fall? Does it hurt the economy and is the impact long term?
Why Rupee Fell
- Increase in rates by the central bank of the USA or Federal Reserve – also called the Fed. This resulted in Foreign Institutional Investors(FIIs) withdrawing investment dollars from emerging economies like India. This increased demand for dollars in India.
- Rise in crude oil prices – After years of moderate prices since 2014, crude oil prices started to rise this year due to USA’s sanctions on Iran – a large oil supplier. Crude oil prices had reached over $80 a barrel in September from about $65 at the start of the current year. India is dependent on oil imports for more than 80% of its requirement and pays for it in dollars. Hence increased oil prices led to increased demand for dollars.
- Imports of non-crude oils also increased more than overall exports – This adversely impacted the balance of payments and resulted also in the overall trade deficit. Essentially all trade is in dollars. Hence, the deficit means that the difference to be paid out in dollars and this again increased demand for dollars.
- To some extent, the threat of trade wars set off by Trump administration has resulted in volatility in markets and currencies impacting developing countries adversely.
Negative Impact of the fall in rupee
- Lower rupee makes the cost of petrol and diesel higher: We have seen this play out with a lot of news around it. Higher fuel prices can also lead to higher inflation but we haven’t seen any alarming rise in headline inflation which continues to be less than 5% in Sept 18. This is largely in line with RBI’s projection.
- Makes India less attractive in short run for foreign investors (FIIs): The fall of rupee results in lower gains for FIIs in dollar terms. Hence, there could be lower inflows of FII investments into India. However, this time around domestic investors like Indian Mutual funds houses were able to invest more into the markets. SIP inflows have remained steady as Indian investors have not stopped investing in the markets even with this slowdown.
- Makes cars, electronics etc. costlier as they have components which are imported or are fully imported.
There are even reports that India could overall benefit from this US-China trade standoff. Besides that India remains the fastest growing economy in the world. Hence the long term investor should not be bothered by volatility in markets caused by the rupee. It’s, in fact, a good time for those who were waiting for markets to correct to start planning for their goals.