Sunday, April 6, 2008

Can the Rupee save us?

The rising inflation which has reached precarious levels, has stirred up a heated debate on what the government should do immediately to reverse the trend of the rising prices. While the government has already tried fiscal measures including reducing import duties, and fixing the minimum selling price on specific commodities, these will help (even if it actually does!) bring down the prices on very specific items. But these micro-measures are not really effective in containing (let alone reversing) the trend of price rise in a macro picture involving various commodities and goods. There is a lot of speculation on whether the intervention of the RBI, through monetary policies like increasing the CRR (and hence interest rates) can really do the trick. These measures will be effective in bringing the price rise down for sure. But they come packaged with two undesirable side effects. One, the rate at which these measures can take effect. It is difficult to expect a price reduction immediately, as it will take at least 6-8 months to show signs of improvement. Two, these come with a heavy price of having to compromise on India's strong growth journey.(read: Krishna Prashanth: The Battle between Inflation and Growth).

In this scenario, the third option (which apparently even the RBI prefers) is to try and achieve a stronger rupee. Looks like the government will have to turn to the 'Stronger Rupee' to try and play the joker to save the situation. An article in Times of India portrays the feeling as it goes on to say this. (Read : Inflation Check: RBI prefers stronger rupee)
"......The central Bank has reduced its market intervention since last one week to buy dollar, when the inflation suddenly spurted...........As inflation had come down to around 4%, the central bank used to buy dollars, to allow rupee to depreciate from a high of Rs 39.50 in February to Rs 40.77 a dollar by March 17. But as soon as the inflation figure was out, RBI reduced market intervention. As RBI reduced purchase of dollar, the US currency started depreciating against rupee. On Monday, as per RBI reference rate, rupee appreciated to 39.97 per dollar. On Tuesday, however, it closed around Rs 40 a dollar. "

If the rupee appreciates, this will have the direct effect that more goods can be purchased with the same strong rupee than it could purchase with a weaker rupee. This will also make exports of commodities less attractive and goods will have to be recirculated into the domestic market, hence increasing supply. This method can have an immediate and effective reaction on the prices to the consumer. In the given scenario, this seems to be the best way to tackle the situation.

The first people to cry foul will be the export oriented industries, especially the IT sector which depend largely on the weakness of the rupee. A stronger rupee might actually hit business for many in this sector. But then again everybody cannot be made happy. Looks like a small price to pay for the large reward of reducing rising prices and saving the common man.

1 comment:

Sita said...

I feel that we should definitely concentrate on those activites that will appreciate the rupee rather than depreciate it.

Its better to have a strong rupee.

Stronger the rupee, more the buying power ! :)