Overhauling policy to revive Rupee
India should focus on strengthening its macroeconomic fundamentals to tackle the issue of depreciating Rupee
The joke going around social media is that an economic reporter wanted to interview the Finance Minister Arun Jaitley. But Jaitley said that he would talk only about cricket. The reporter, happy that he finally got a chance to ask Jaitley some questions, wondered if he should start with batting or bowling. Jaitley said to start with the toss. The peeved reporter asked why the toss and Jaitley immediately said that it is the only time Indian rupee goes up.
Jokes apart, the rupee has been sliding down freely, though partly due to the strengthening of the dollar, and it has been a matter of concern for the economy. Also, it has come at a time when global crude oil prices are hardening and India's current account deficit is widening alarmingly.
Usually, a falling rupee is a double-edged weapon. It helps exports, particularly when it is in a recovery mode. But it makes imports more expensive, especially when India imports 80 per cent of its crude oil requirement. The freefall of rupee now at over Rs 72 to a dollar, and that too volatile, makes it risky for the economy.
The current account deficit is widening in India because of two reasons — Demonetisation and the hasty rollout of GST. These measures impacted the informal sector badly, which accounted for nearly 80 per cent of the jobs in the country. The informal sector, with MSMEs included, accounted for nearly 45 per cent of India's exports, mainly the labour-intensive sectors such as leather, textiles, handlooms, handicrafts, gems, and jewellery. This informal sector also catered to the large domestic market as well, accounting for nearly 40-50 per cent consumption of manufactured goods.
With demonetisation hitting the informal sector, domestic consumption of locally manufactured goods has been substituted by cheap imports from China. That apart, Make in India has not taken off to the extent it should have and hence, there has been huge imports of electronics goods which is next only to oil and gold imports.
India has, therefore, been hit on both counts: low exports and high imports, widening the trade deficit and the current account deficit, much above the desirable level. The falling rupee value has worsened the situation. The trade deficit is expected to be close to a record $200 billion and CAD at an unsustainable level of nearly 3 per cent of GDP this financial year.
But this does not mean India should make efforts to control imports. Instead, it should step up exports through massive reforms, take steps to attract labour-intensive export units shifting base from China. At the moment, most of them are going to Vietnam, Cambodia, Bangladesh, and so on. India has huge potential to attract them, particularly in textiles and leather, if only the government gave some incentives, created a conducive environment, and cut the red tape.
Knee-jerk reactions are best to be avoided and import restrictions will only lead to increased protectionism, while past experiences have shown that only globalisation has helped both emerging and advanced economies in the trade as well as growth. The government recently announced some measures to attract short-term capital inflows and eased external commercial borrowing norms. But the question is why would there be some capital inflows or domestic companies borrowing from abroad when the investment climate is uncertain. Even with current account deficit at 2.5 per cent of GDP, India could still grow at 8 per cent. If it breaches 3 per cent of GDP, it is a matter of concern and steps would be required.
According to former RBI Governor Raghuram Rajan, falling rupee is not too big a worry right now. He feels it has not depreciated to a worrying level. The Indian rupee has weakened nearly 10 per cent so far this year making it the worst performing Asian currency. It is the dollar's strength that is depreciating many emerging market currencies. Rajan's advice to the government is that India should focus on strengthening its macroeconomic fundamentals instead of worrying about the depreciating rupee. Bringing down the current account deficit and maintaining the fiscal deficit is more important. This will make the investors more confident and the economy would get kick-started.
The depreciating rupee, to some extent, is good as the government has been pursuing implicit strong rupee policy for three or four years. It was time for some correction, which of course has to be orderly. The government recently announced an array of steps to boost exports. This included removal of withholding tax on masala bonds, relaxation on non-portfolio investments, and some restrictions on non-essential imports.
India's share in goods exports was less than 2 per cent in the world exports as against China's nearly 14 per cent. But in services exports, our performance is slightly better at around 3.5 per cent of world exports. Today there is yet another opportunity for India to become a global exports hub if the right policy is put in place to push both goods and services exports.
The finance ministry has come out with two separate working papers on the challenges and policy initiatives needed to take India's goods and services exports to a new high. They suggest that it is possible to take India's share in world exports to a respectable five per cent. For this India's goods exports should reach $882 billion by 2022, which means India's export growth rate needs to be around 27 per cent compound annual growth rate (CAGR) in five years. This is not impossible as India has had higher exports growth than this during 2004-09.
Services exports, which had gone from $53 billion in 2005 to $162 billion annually in 2016, have done better than goods exports in the first half of 2017-18 at 16.2 per cent growth. Various initiatives have already been taken to push services exports but more needs to be done, considering that the ill-effects of demonetisation and rollout of GST are now behind us.
India's goods exports have to be made demand-based rather than supply-based as at present. Regarding services exports, there is a need for 'services from India' initiative just as make in India initiative to promote manufacturing exports from the country.
There is a need for rationalising tariffs. Though average customs duty is around 10 per cent, the real applied duty is around 2.8 per cent because of various exemptions provided. This is creating distortions. The US-China trade war, too, has opened up some opportunity for India to boost exports. There are some low hanging fruits. But India would have to work upon them to convert it into an opportunity.
Overall, there are some alarm bells on India's external situation and if tackled appropriately, can help India overcome the hump. What is needed is the right kind of policies and incentives. Knee-jerk and ad-hoc measures need to be avoided. Jaitley should ensure fiscal slippages are avoided and take appropriate measures to ward off the ill effects of surging fuel prices.
(The views expressed are strictly personal)