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India’s Problem Is Exports, Not the Rupee

August 23, 2013 in Economics

By Swaminathan S. Anklesaria Aiyar

Swaminathan S. Anklesaria Aiyar

King Canute had it easy. Indian Finance Minister Palaniappan Chidambaram has battled currency markets for two months, trying to stem the collapse of the Indian rupee from 55 to a dollar in May to 65 this week. He has found commanding currency markets even harder than commanding the ocean waves.

He should stop trying. A weaker rupee is not inherently a terrible thing. Rather than frantically shoring up the currency, Chidambaram should target the structural impediments in the economy that have caused both Indian and foreign investors to lose faith in the once-glowing India story.

A falling rupee is a political, not an economic disaster. The plunge raises import prices and exacerbates inflation in the run-up to the next general election, just eight months away. In an attempt to support the currency, the government has increased import duties on gold and consumer durables, and has raised short-term interest rates to curb currency speculation.

What’s bad for electoral prospects, however, can be good for an economy running a current account deficit that’s reached 4.8 percent of GDP. A cheaper rupee will encourage exports and discourage imports. Inflation will erode some of these apparent advantages. Indeed, the rupee’s fall from 45 to 60 a dollar from 2011 to June 2013 didn’t lift exports at all: The advantages were offset by high inflation and a lousy business climate. However, exports rose 12 percent in July, suggesting that the rupee may finally have fallen enough.

Strangled Birth

The danger now is that dysfunction in the Indian economy will strangle any incipient export boom at birth. GDP growth slowed to 5 percent last year, after racing along at 8.5 percent for a decade. Industry and, until the recent uptick, exports have stagnated. Inflation has soared. The current account deficit is almost double what the Reserve Bank says is sustainable. A year ago, rating companies threatened to downgrade India to junk.

Chidambaram was recalled to the Finance Ministry to stave off that verdict. He cut the fiscal deficit from 5.8 percent of GDP to 4.9 percent, and promised a further reduction this year. He initiated reforms, including liberalized entry for retail giants such as Wal-Mart Stores Inc.

The hope was that fiscal discipline plus reforms would revive animal spirits among investors, and produce an economic spurt before the elections. The plan was on track until May: Inflation fell, interest rates were cut three times, and $20 billion of foreign portfolio investment flowed in. But after Fed Chairman Ben S. Bernanke said he …read more

Source: OP-EDS

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