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On the horns of a dilemma financial scene

The impact of rupee will be felt across many areas

Two recent headline making news have a common strand. On July 12, the Government announced a Rs. 1,400-crore package for exporters who have been complaining of a loss of competitiveness in the wake of the strengthening rupee. A day earlier, Infosys Technologies lowered its profit and revenue outlook for 2007-08 although it raised its guidance in terms of dollars marginally. Here again, the rupee’s recent rise is the issue. Its earnings from software exports expressed in dollars would be worth less in rupees. TCS, Wipro and Satyam followed suit reporting pressure on their gross margins in the wake of a stronger rupee.

Since April last the rupee has moved up sharply from Rs. 44 to a dollar to its current level of between Rs. 40 and Rs. 41. Thus, compared to April, the rupee has become stronger against the U. S. dollar by between 8 and 10 per cent. Such a sharp change in the rupee’s external value over a short period is bound to make a substantial impact on companies and businesses that have a dominant overseas revenue/expenditure stream. Simply stated, importers stand to gain and exporters to lose from the rupee’s strengthening.

But from the policy angle and for even importers and exporters, the issues are far more complex. There have been a number of viewpoints on the recent rupee appreciation, especially because the dollar seems to have settled down in the 40-41 range. The betting is that the Reserve Bank of India may not allow a further rise in the rupee (to below Rs. 39 to a dollar, for instance.) There is, however, no going back to the Rs. 44 a dollar level seen in April.

This at any rate is the consensus of experts. The RBI’s exchange rate policy in the recent past has been flexible though this has involved careful monitoring. There is no fixed target or band for the rupee. The system of ‘managed float’ of the currency presupposes that the RBI will intervene. The fact that such intervention was minimal or non-existent is the principal reason for such a massive appreciation since April. The clear inference is that the central bank wanted the rupee to move up or at least did not prevent it from doing so. Market forces in any case favour a rupee appreciation.

There has been an abundance of dollar supply. Apart from inflows through foreign institutional investors, there has been a surge in external commercial borrowings by Indian companies. In fact, recent reports speak of a possible regulatory cap on these. Even the Prime Minister’s Economic Advisory Council has cautioned against an unbridled growth in the latter category.

On the other side, domestic demand for dollars is not strong. The RBI had intervened aggressively in the past by mopping up the incoming dollars in the first instance. At the second stage, it has to sterilise the excess liquidity (rupees released by the purchase of dollars). The decision to intervene sparingly may have been prompted by the high cost of intervention — the two stage sterilisation of dollars and then rupees — vis-a-vis the benefits.

But there is a cost to be paid. Exporters lobbied and won a package of sops from the Government. There are other sections that may not have such lobbying capacity. Notably, Indians working in West Asia and other countries and sending money to support their families in India cannot organise themselves and plead for a cheaper rupee. Compared to its pre-April levels, every dollar remitted by them would now fetch Rs. 3 - 4 less. This may seem inconsequential but for many families in Kerala and other States the reduction in value of the periodic remittance can be significant.

Indians working abroad remitted home close to $29 billion last year. That figure has remained steady over the years, considerably easing the pressure on the current account caused by a widening trade deficit. Just because they are not in a position to keep their savings in any other currency/country or even in convertible NRE accounts in India, they should not be penalised. Many well heeled non-resident Indians, mostly based in North America and Europe, voted with their feet during 1990-91 when India faced a major crisis. Even today, NRI deposits are periodically discouraged by lowering the deposit rates offered by banks in India.

What about the impact of the rupee on export of software and other services? Infosys and others will see lower rupee realisations from their dollar billings. Hence their margins are sure to be affected. Over the medium term that will send wrong signals to the stock market. Infosys, TCS and a few others are bell weather stocks, determining the movements of the stock indices as a whole. Undoubtedly many of them will hedge their dollar receivables to a greater extent. But there is no wishing away a stronger rupee or the costs of hedging.

Just weeks earlier, when the inflation numbers remained consistently high, a stronger rupee was thought of as a saviour. But soon it has become a liability even in a political sense. There are reports of job losses in export oriented and labour intensive industries such as diamond cutting and polishing. For policy makers and especially the RBI, the biggest question now is how to resolve the dilemma.

C. R. L. NARASIMHAN

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