November 06, 2022

Is the Rupee Fall Over?

Sanjay Roy

THE mounting pressure on rupee-dollar exchange rate is not going to ease out in the near future. In April 2021 one dollar was exchanged against 74.47 rupees which has touched 80.23 in September 2022 and exchange rate further fell to 83.2 per dollar on October 20, 2022. The decline in rupee vis-à-vis US dollar is a combined effect of widening trade deficit particularly merchandise trade deficit which in turn led to widening current account deficit when India is suffering decline in stable flows of foreign investments together with episodes of capital flight during the recent past.

The widening trade deficit once again reflects our structural vulnerability in the external front and more importantly the recent capital flight underlines the helplessness of national policies particularly in a globalised regime when they are linked to and influenced by ‘free’ movements of volatile capital. It is a well-recognised fact by now that interest rate hike in the US has immense impact on net foreign outflow of funds. In September 2022, US inflation rate was 8.2 per cent which was the highest inflation rate in the past four decades in the US.

In order to tame inflation, there have been several announcements of interest rate hike in recent times by the US Federal Reserve and it is expected further that in the next meeting in November 2022, there can be announcement of another hike in interest rate by 75 basis points. With rising interest rates in the US, capital from across the globe is attracted towards greater return leading to massive outflow of capital from other countries including India. In view of containing this capital flight, the Reserve Bank of India also raised interest rate so as to reduce the widening gap in return to capital between countries and restrict the outflow. A widening trade deficit coupled with declining forex reserves and capital flight has increased pressure on exchange rate of rupee vis-à-vis dollar.


Trade deficit, that is the difference between the value of imports and that of exports, has reached all time high at 80.2 billion US dollar in the quarter ending September this year. Gloomy global demand, recessionary fears, monetary tightening through increase in interest rates as well as decline in consumer spending particularly in advanced countries contributed to a general decline in exports. Besides the OECD forecasts of slowing down of global growth in general, India’s exports are likely to be hit further due to expected slowdown in India’s major export markets in the US, UK and China. Manufacturing exports particularly of engineering goods, textiles, handloom products and plastics are likely to be affected the most.

In case of manufacturing, India is also dependent on China for intermediate inputs and the zero-COVID-19 policy implemented in China and the consequent lockdown has also created disruptions in the supply chain. WTO has already forecasted that the world trade is going to lose its momentum in the second half of 2022 and further decline in the year 2023. With a depressing world trade, augmenting exports will be difficult for India in the near future.

On the other hand, import values in India are increasing faster. This is expected to grow in the near future because of rising trends in commodity prices. India’s imports are anyway very much sensitive to commodity prices because commodities constitute more than 50 per cent of India’s import basket. True indeed that price of crude oil now is much less than its peak level in March 2022 but still it is 90 US dollar per barrel (Indian basket) and that costs heavily to India’s imports. There is some respite due to moderation in the world prices of industrial metals particularly because of manufacturing slowdown in Europe and recent lockdown in China but stability of such prices is uncertain.

It is also important to note that the recent announcement of the OPEC+ to cut down production of crude oil together with likely increase in demand for oil in Europe in the winter this year will push up crude oil prices once again in the near future. In spite of the fact that in the recent past India has diversified its sourcing of crude oil relying more on Russia, Turkey and UAE, increased demand and cutting down of production is going to adversely affect India’s import bill. Besides these factors, post pandemic recovery has also expectedly increased demand and imports of consumer goods and industrial inputs. As a result of rising import bill while export earnings faltering behind in the case of merchandise trade, merchandise deficit has increased from 76.3 billion US dollars in the first half of 2021-22 to 148.5 billion US dollars in the first half of 2022-23. The huge increase in merchandise deficit is slightly moderated in gross trade deficits due to net services exports during the period April-August this year.


The widening of trade deficit has also resulted in a rise in current account deficit from 1.5 per cent of GDP in the fourth quarter of 2021-22 risen to 2.8 per cent of GDP in the first quarter of 2022-23. This is indicative of the fact that the trade gap could not be mended by net inflow of foreign investments, instead there has been net capital outflow during the recent period. Foreign Direct Invest fell sharply in August 2022 and it was 1.1 billion dollars during this month which was the lowest amount since April 2017 if we exclude the pandemic period. External Commercial Borrowings (ECBs) by corporates have come down due to increasing cost of borrowing as a result of rising interest rate in the US. NRI deposits also declined during August 2022. On the top of that net outgo of investment income payments such as dividend repatriation by MNCs and portfolio investors besides profits from investment in companies has increased during this time. Besides this outgo of less volatile investments, the total outflow of more volatile Foreign Portfolio Investments in Indian equity and debt market was to the tune of 20.6 billion US dollars.

As a result of this massive outflow of foreign investments and a swelling of trade deficit, rupee is becoming increasingly weak with respect to dollar. Reducing trade deficit would be difficult in the near future because of low prospects of export growth when global economy is fearing imminent recession. On the other hand, possibilities of rise in oil and other energy prices might push up the import bill.

In response to another doze of interest rate hike by the Federal Reserve in November, possibilities of capital outflow from India can’t be ruled out and all these would increase further pressure on the exchange rate once again. The Reserve Bank of India has increased interest rates in the past and also intervened in the market using foreign exchange reserve to contain the capital outflow and downslide in exchange rate. The fall of rupee vis-a vis dollar increases costs of our imports particularly of inputs and energy which further has cascading effects and contributes to inflation. While rising interest rates would restrict investments at a time when demand in the economy is yet to reach the pre-pandemic levels and unemployment continues to be high. It seems that the free movement of capital in a globalised world is going to cost us more and the fall of rupee perhaps is not yet over!