Fall in Rupee Against Dollar: Good or Bad?

7 Oct 2019 Read 100 Views

Often we read the news that rupee has fallen against the dollar. The very next day, the news is filled with political parties blaming each other for the fall. In the national elections, key politicians question the incumbent government over this issue. Some overzealous politicians would even come up with statements, "A Rupee was equal to a Dollar in 1947…". Is fall in rupee’s value actually bad? What causes the difference to the value of the same ₹100 between yesterday and today? What is a strong currency? The answers lie right here.

Comparing Apples with Oranges

Every country has a currency that it uses to facilitate transactions. However, each country has a different currency. Now, assume country A trades using Apples as a currency, while country B uses Oranges. If they want to trade, how will they decide? They cannot exchange an apple for an orange. After all, you cannot compare apples and oranges! Therefore, there has to be a system that facilitates this exchange.

The Demand-Supply Problem

How one does decide on the price of the commodity? Why is coal so cheap and gold so expensive? The answer is simple. The availability of coal is abundant. If someone tries selling it for ₹10000 per gram, there would definitely be some other seller who would sell it to you for ₹100. The one pricing exorbitant will be eliminated (except if it is Apple’s new i-Coal).

Gold, on the other hand, is scarce. People are ready to pay the price for it. For similar reasons, we see inflation rising.

The Rise and Fall

We now go back to countries A and B. Initially, they decide to exchange 1 apple for 1 orange. Now assume there is another country, C that produces Guavas. However, it does not trust country B. It says that it will trade with country B only in Apple currency (not oranges). What will B do? It does not produce any Apples. It will now ask A for more apples. Country A produces only limited apples, so it asks for more price (oranges) for apples. B is now ready to pay it 2 Oranges for one Apple. Here the exchange rate has changed to 1 Apple= 2 Oranges!

The Dollar and the Rupee

Easily seen above, Dollar and Rupee are commodities like Apples and Oranges. Due to the strength of the US, the Dollar is quite stable and hence, widely accepted. This omnipresent acceptance of Dollar increases its demand and renders it the status of global currency.

On the other hand, the Rupee is not widely used. Instead, we need Dollars too, to trade internationally. More Dollars we possess, seamless will be the trade.

And, how does India do that? India too asks for Dollars to other countries in exchange for its goods and services (the exports). The more India will export, the more Dollars will it get in return. More the Dollars India has, more robust it stands to the demands of global trade. Assume, if country B had an Apple tree as well, it could deal with country C without changing the exchange rate with country A.

On the contrary, the more India would import, more Dollars will it have to pay. We pay Dollars for gold, petroleum and defence equipment imports.

The Fall of Rupee

The Rupee is mostly in news when it sees a fall. Why does Rupee fall? Though reasons are aplenty, we will see only a broader perspective.

This is a real story. When in 1970, Coca-Cola came to invest in India, it had so many Dollars but no Rupee. However, they would need Rupees to pay to the builder, establish their factory, pay workers, delivery persons, and maintain logistics. So, they exchanged their Dollars for Rupees. Demand for Indian Rupees has increased, and hence its price would increase.

In 1977, the government changed and the new government asked Coca-Cola to leave India. Coca-Cola sold everything in Rupees and exchanged it for dollars. Now they do not need Indian rupees. The demand of rupee has fallen and so has its price.

This is what happens every day. It just depends on many factors. The exports vs. imports, the investors buying shares in Indian stock markets (FPI), the investors selling, or those coming like Coca-Cola (FDI).

Is $1=₹ 70 a Bad Ratio?

It is not white and black. The developing countries like India are benefited from currency devaluation provided its strong export market. Assume today the $1 = Rs. 70. It means that for every good worth ₹7000, an American would pay $100. Tomorrow if this rupee increases to ₹35=$1, the same good would cost $200 to that American. Will he buy the same thing at double price? Assume this scenario when this same good is also provided by China, Vietnam, UK, Australia, and Argentina. We cannot lose our business.

China is a US-designated currency manipulator. It means US accuses it to deliberately devalue its currency without transparency to keep its exports flowing to US markets.

Japan, one of the world's superpower, has an exchange rate of $1=107 Yen. That is worse than India. But, we should know that the currency rate against the dollar is not the benchmark of development.

Then Why is Falling Rupee Portrayed Evil?

The issue is not the devalued currency. The issue is its fall. No market in the world likes instability. How would one feel if someone has to pay a different price every day for the same commodity? A dollar for ₹70 is not bad; bad is its steep decline to ₹73 in a week. 

In addition, this price is also a factor in a country's global reputation. The fall in rupee post-budget in 2019 was majorly attributed to portfolio investments leaving India. This gives a message to the world that India is no more the best country to do business. This is not something a country would like to associate itself with. Deteriorated image of Pakistan and its unveiled inability to repay the debts have pushed its currency down by 100% in the past two years!

Moreover, India imports more than it exports. For fall in every rupee against the dollar, we have to pay more to buy the dollar. It affects us when we import oil in dollars because we have to shell out more money. 

Closing Word

Rupee glut can be used to our advantage if we just keep it stable. The devalued rupee is a blessing. However, it will benefit us even more the day we become an export surplus country like China. So, currency value is not a concern per se, its steep fall is.                                                                                                                                 

About the Author: Vivek Tiwari | 20 Posts

Vivek Tiwari is a Software Engineer and a Data Scientist who hopelessly fell for Economics. His plans to move to Finance might now save mankind from his IITJEE selection story.

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