Devaluation of INR, Is it good or Bad?
The devaluation of the rupee or INR is the latest point of debate in many news broadcasts on television today. Some blame it on the Current Account Deficit (CAD) and some blame it on the strengthening US dollar (USD) as the Fed from the US hinted of a gradual withdrawal of Quant Easing. Nevertheless, the INR has lost more than 15% in value against the USD in the recent past. As of date, the INR was trading at 59.6 per USD. Last week it reached an all-time high of 60.73 per USD. So, is this good or bad?
Well, that depends on who you are and what you do as a country, individual, or as a company. China was and is under tremendous pressure from the US to revalue its currency. But the Chinese government was reluctant to act according to the USâ€™s wishes and kept the Chinese Yuan relatively stable. The Japanese Yen is trading at around 100 Yen per USD. Would this mean that the Indian economy is better than the Japanese economy?
How does it happen?
Itâ€™s a simple law of economics called the Demand and Supply. In reality, it is much more complex with lots of other variables at play. However, for this conversation, let us try to keep it simple. The currency exchange rates are dependent on the trade volume and flow that a country has with its trading partners.
For instance, China as an economy is export driven market. It makes more exports than it imports as a country. So, it attracts more dollars into the country than it spend on the imports. This makes China to have surplus dollars and the demand for Yuan exceeds the demand for dollar.
On the other hand, import driven economies like India import more goods and services than exports. This creates a greater demand for dollars as you buy imports by paying in dollars. The increase in demand for dollars increases the exchange rate and hence the devaluation of INR.
To summarize, Import driven economies have devalued currencies whereas export driven economies have relatively stronger currencies. Hence, the Chinese currency is relatively stronger than the Indian or the Japanese currencies.
Is devaluation good or bad?
As an individual, it pinches me if I am a frequent traveler or a student, as my travelling costs and living costs in another country increase in line with the currency devaluation. If I am an NRI, I would have more net savings when my savings abroad are converted to INR.
From a countryâ€™s perspective, it creates an imbalance on the Balance of Payments especially for import driven economies. A country like India which imports majority of essential commodities like Oil, pays much more in terms of the value in INR than opposed to what it previously would have paid. The imports get expensive thereby increasing the CAD. This will further devaluate the currency which becomes a vicious cycle until the imports are reduced.
This is a welcome change for a company which is into the export of goods or services. For example, let us consider the IT/ITeS companies in India, the currency devaluation has come as a blessing in disguise as this industry was battered with slow growth due to global economic slowdown. From a healthy growth of high teens (around 18%) in the past, the NASSCOM has estimated that this year the industry would grow around 10-14% most likely on the lower side of the range. The currency devaluation at this point of time is more than welcome for these service providers as it contributes directly to the bottom line. For example, a contract worth $100 was worth INR 5,000 a while back when the exchange rate of $ to INR was 50. Now at the current exchange rates, the same project is worth more than INR 6,000.
Most prominent companies like Infosys, Wipro, TCS and the likes are actively involved in currency hedging. This would bring down the positive effects of the devaluation.