Value of Indian Rupee against the US dollar: A journey in the making By Dr. Bobby Srinivasan and Dr. Sudhakar Balachandran

September 21, 2016 | Posted by bobbysrinivasan << back to blog

Part I: Indian Rupee – History upto September 2016.

A well-known financial expert said and I quote, “whenever I visit a new country, I make a detailed study of the country’s currency value overtime against the dollar. This single barometer is sufficient enough to know about the economic activities of the country. When I combine it with their discount rate (Fed funds rate, repo rate) the picture becomes complete”. In this context one of the earlier US President said that “if a country has to be destroyed first destroy their currency”. From these observation and statement, I felt that I should study the journey of the Indian value of rupee over the last 69 years since independence of India which took place on August 15, 1947.

When the British left our shores in 1947 they left a country with such political and economic uncertainties. A massive population of around 400 million a very huge portion of them were living in villages with massive illiteracy hunger and poverty. Since then we have made a stupendous progress, no matter how slow growth it has been and are poised to become a nation of high global standing. But the journey of the value of rupee is another story.

The value of Indian Rupee at the time of our independence stood at 1 US dollar = 1 Indian Rupee. Today it is trading around 1 US dollar = 67 Rupees. Political and economic events combined with poor management of global trade have all contributed to this massive fall in the value. At the time of independence our balance sheet was clean with literally no foreign borrowings. The leaders thought at that time that the economic growth of the country could be achieved only through planning and execution. So in 1951, the government introduced its first five year plan. The mission of the government at that time was to improve the infrastructure of the country. Hence huge money was required to undertake this mission. The local savings rate was pittance given the low economic activity. So the government had to rely on external borrowings. Current account and capital account faced massive deficits as its consequence. We had to import machineries from abroad paying in foreign exchange and so this resulted in borrowing in US dollars and pounds. Because of this our currency had to be devalued massively. They pegged the rupee at 4.79 against a dollar between 1948 and 1966.

Unfortunately Indian was not left in peace. Two consecutive wars; one with China in 1962 and another with Pakistan in 1965 drained our resources. India was not a manufacturer of war weapons. We had to buy weapons from abroad. Paying huge foreign exchange and not being able to meet our debt obligations from our meagre hefty foreign reserves resulted in our government to devalue the currency again to Rs. 7.57 to a dollar. Foreign deficit continued to grow overtime and in 1971 Indian link with the British Pound was broken and it became directly linked to the US dollar.

The sad story of the Indian Rupee value depreciation continued. Indian Rupee was pegged at 8.39 against the dollar in 1975. Its value slowly drifted to 12 Rs. to a dollar in 1985. The foreign exchange and debt continued to grow. Our exports amounted to pittance as compared to our massive imports. What little foreign exchange reserve we had disappeared resulting in a serious balance of payment crisis. In 1991, when Mr. Narasimha Rao was our PM and Dr. Manmohan Singh was our Finance Minister were forced to face the challenge. The World Bank said, “either devalue or go bankrupt”. Our foreign reserves were not even adequate to import goods for one month. There was no choice. Our government hypothecated peoples gold to take a collateralized loan as foreign exchange was not available any other way. At that time the country was in the grip of high inflation and low growth. Under this economic environment our currency was devalued to 17.90 against a dollar.

The saga of Indian rupee continues. In 1993, Rupee was let free to flow with the market sentiments. The exchange rate was freed to be determined by the market with provisions of intervention by RBI under situations of extreme volatility. This year the currency was devalued to Rs. 31.37 against a dollar. In the period between 2000 – 2007, the value of Rupee stopped declining and stabilized ranging between 44 to 48 against the dollar. Things then turned for the better. Faith in our economy improved and India started pulling amazing economic growth rates. With Dr. Manmohan Singh in power, foreigners believed that India is on a roll. Foreign exchange poured in. Indian Rupee made a brilliant recovery to become 39 Rupees against a dollar. Strangely it was hurting IT and BPO companies who chose to locate in India because of its low exchange rate. Ofcourse this was not to last too long. In 2008 the world was hit by the US sub-prime crisis and panic was everywhere. Foreigners sold their Indian portfolio and took their money. Our Sensex fell from 21000 to 8000 approximately. In a years of time the Rupee value stabilized around 40-50 between 2000 and 2010.

After considerable liberalization massive imports took place. India became the largest importer of gold amounting to 1000 tonnes per year. The crude oil prices which we imported hit a high of US $ 147 (currently it is $ 45 dollar a barrel and also hit a low of US $ 26 a barrel). Trade deficit widened and this hurt the Rupee. Since 2012 to date the rupee has drifted lower and in September 2016, it is trading around Rs. 67 against a dollar. Panic hit in 2013, when the US Fed Chairman Janet Yellen decided to discontinue quantitative easing. The market thought at that time that the next thing that was going to happen was an increase in the US interest rate. For financial historians here is an input. In 1980 when Roland Regan took power in the US, the prime rate was 22.5% (yes it was). The then Fed Chairman Paul Volcker became a big inflation fighter and by jockeying the rates this high he broke the back of inflation which then was running at 12% and he brought it down to 6%. Now returning to our topic fearing that the US interest rate may be hiked, the Indian Rupee fell rapidly to 68.85 against a dollar. Dr. Rajan, former RBI Governor raised nearly 26 billion dollar through the FCNR(B) scheme. This stabilized the Rupee and brought it back to a high of 50 Rupees towards a dollar and since then has drifted lower to 67 Rupees.

Enough of this windy explanation of what happened to the value of Indian Rupee ending September 2016. What factors and global macro environment will affect its value will be the next part of discussion.

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