The problem of the rupee

Human Angle

Babu Gogineni

In March 2011, the Indian Parliament passed the Coinage Amendments Bill, thereby making the melting or destruction of legal tender punishable by seven years of imprisonment. A coin is a medium of exchange as well as a store of value: when the value of its metal exceeds a coin’s face value, the coin would be valuable more as metal than as currency — hence the legislation.

In 2007, police caught a gang of criminals in North India – they were melting huge quantities of coins to make razors to be exported to Bangladesh! Because of widespread instances as this, in June 2011, the Reserve Bank of India withdrew the 25 paise coin from circulation, acknowledging the plummeting value of India’s currency. Since this demonetization of the 25 paise, the Rupee itself has had a rather close shave, buffeted as it has been by 9% inflation at home and a 23% decline in its value vis-à-vis the US Dollar.

In the present scenario of universal economic gloom the Rupee suddenly appears unattractive, but it certainly has had its days of glory. The currency got its name from the Sanskrit word rūpya which means silver, and was first introduced as legal tender by Sher Shah Suri in 1540. Its value was based on the silver standard i.e. on its silver content. However, when vast quantities of silver were discovered in the US and in European colonies in the mid-1800s, silver became cheaper, and the Rupee lost its relative value as other currencies were based on the gold standard.

Despite this first fall in its value, the Rupee continued to be a successful currency internationally except when, in 1910, to commemorate George V’s ascension as Emperor of India a new Rupee coin was issued depicting the King wearing the Order of the Indian Elephant. Because of poor workmanship the elephant looked like a pig and the ‘Pig Rupee’ had to be withdrawn to appease the incensed Muslims across the Empire!

The Rupee was used extensively in East Africa — in Mozambique, Kenya and Uganda. It was in use in North Africa in Somalia and in South Africa in Natal. In Ethiopia, the Italian colonial administration too minted the Rupia and its unit, the Besa. The East India Company Rupee was briefly used in Australia in the early 19th century.

While Sri Lanka did it already in 1869, India decimalised the Rupee in 1957 when the 16-anna Rupee made of 64 pice or paise was replaced by the present Rupee made of 100 paise. In 1959, the Government of India issued the Gulf Rupee meant to be used as the currency of Kuwait, Bahrain, Qatar, Abu Dhabi and Oman. It was only in 1966 when India devalued the Rupee that these countries introduced their own currencies and pegged them to the US Dollar. The national currencies of Mauritius, Nepal, Pakistan, Seychelles and Sri Lanka continue to have the name Rupee, while Indonesia’s rupiah and the Maldives’ rufiyah are also named after it.

The Rupee’s next fall was the devaluation in 1991 when a balance of payments crisis loomed over India. It has since been falling steadily for the past 21 years at a compounded annual rate of 3.78% vis-à-vis the Dollar.

What is wrong with a currency losing its value? In neighboring China the policy is to deliberately keep the Yuan undervalued. A weaker Rupee would make exports more attractive: the IT sector would benefit because of the competitive advantage to Indian exporters. It would also help in the medium term to set right any trade imbalance. It is the Eurozone that is at the heart of an international financial contagion whereas the Government of India recently pledged $10 billion to the Eurozone war chest. India has a revised GDP growth expectation of 5.5% — so are things really so bad and alarming?

Actually, yes. India imports 70% of its oil and that is a monthly bill of $6 billion when prices are low. Costlier imports fuel inflation — official data show that vegetables are already costlier by 49% and pulses by 17%. Because they hedge their revenues the IT sector does not automatically gain from a lower Rupee: IT giants Infosys and Wipro lost over 15% and 10% of their value in recent months. Current account and fiscal account deficits are alarmingly high — the present fiscal deficit to GDP ratio of over 4% is threatening to go up to 5.4%. This is scary and also puts paid to plans for full capital account convertibility of the Indian Rupee since the Reserve Bank of India’s Tarapore Committee recommended over 15 years ago that total convertibility was possible only when average inflation rate was between 3% and 5% and gross fiscal deficit to GDP ratio was around 3.5%.

Just before the devastating Asian financial crisis of 1997, Thailand, Malaysia and Indonesia were in a similar situation. So, despite the fact that there is no full capital account convertibility for the Rupee, fears for the future of India, Asia’s 3rd largest economy, are growing.

Standard and Poor’s which gave poor ratings to 36 out of 128 countries gave India a BBB- the lowest in investment grade and has put the country on watch. The threat is that in two years India might be awarded junk status. Fitch ratings agency has also a similar view about the Indian economy.

Many analysts believe the problem is one of policy paralysis and endemic corruption, and suggest that a clear vision needs to be articulated about development of infrastructure, strengthening the domestic market, welcoming foreign investment and predictability of taxation laws. The Centre has not done much in the past many years on this count.

Despite all that, IKEA has announced its plan to invest $1.5 billion in India in the long term and similar announcements are being made by other firms. So all is not lost, yet. The India Growth story and the Rupee’s glory could be reinstated provided the right steps are taken.

Tags: Babu Gogineni, Human Angle, rupee

Category: Opinion