For the first four years of his term, the rupee was stable, global oil prices moderate, foreign funds poured into debt and equity markets and investment projects, and inflation was more or less under control while the twin deficits were cause of not much concern. No longer, though. Now that Modi is in the penultimate year of his five-year term, and a tough parliamentary election lies ahead next year, things on the economic front no longer seem so rosy.
To begin with, the global crude prices are yet again moving north, already hovering close to $80 a barrel after averaging between $30-38 a barrel for much of the last three years. There is pressure on the fisc, partly due to populist demands to waive off farmers’ loans in one state after the other. The combined deficit of the Centre and the States is already at a precarious point. According to latest reports, the Centre’s fiscal deficit for the first two months of the current financial year had already touched 55 percent of the full year’s target. There is bound to be further pressures on the fisc due to the electoral compulsions of the ruling party in the months ahead. Moreover, the rupee touched a new low of Rs 69.09 against a US dollar last Thursday.
It recovered somewhat following intervention by the RBI but there was no denying a renewed pressure on the rupee due to the rising oil prices and the fears of a renewed trade war between the US and China which could disrupt the entire global economic order. The US pressure on India to renege on contracted oil supplies from Iran following Trump’s unilateral abrogation of the multi-nation nuclear deal with it was a cause for concern. The rupee had other reasons to be under pressure. The US Fed was steadily raising rates at back of a low inflation and higher growth rate, causing the flight of dollars to the US. Since early this year, foreign funds have been net sellers of equities and debt. Indeed, since April 1, foreign funds have pulled out over $9 billion after selling shares and debt. If the share markets are still not in a nosedive, it is because of the domestic funds and the intrinsic strengths of the economy. Besides, foreign money from non-US sources, too, has begun to flow in considerably in recent times. In fact, despite the fall in the value of the rupee, in terms of the real effective exchange rate, the rupee still is doing better in comparison to some other major Asian currencies.
Against a basket of 36 currencies and after adjusting for inflation, the rupee is still holding strong as against the time when Modi took over power in 2014. Besides, the relative correction in the value of the rupee might help better recovery for exporters, and to that extent, boost exports which have suffered from the twin blows of demonetisation and GST. There is no need for panic, given that RBI is sitting on over $400 billion in reserves. But RBI will be ill-advised to intervene strongly to defend the rupee under pressure from the political executive and should, instead, allow market forces to prevail. It is the failure of the Government in fulfilling its disinvestment targets or in keeping expenditure under check which should be a matter of greater concern.
Happily, the Government has shown courage and not wilted under pressure to reduce the excise duties on petrol and diesel with an eye on the coming polls in the crucial States of Rajasthan, Madhya Pradesh and Chhattisgarth, and a few months later the general election. Management of the economy should not be disrupted by the onset of polls. The write-off of farm sector loans coupled with the on-going exercise to settle the huge problem of non-performing assets of the public sector banks have already posed a pressure on the fisc and additional demands should be desisted as far as possible. Economic policy makers should not stray from the correct fiscal path.
