The Hindu Business Line : Yuan revaluation will leave rupee cold

THE last few years have seen a steady appreciation of the rupee against the US dollar. From the depths of close to Rs 50, the Indian currency has climbed steadily to Rs 43.50 levels.

"Steady" is the word - the Reserve Bank of India has managed the appreciation with hardly any volatility, proving our central bank needs no lessons in exchange rate management. Its performance is worthy of that of any G-7 institution.

After China, India has become the investment destination for global funds. Our capital and debt markets are pretty sophisticated in terms of trading technology and settlement and payment systems.

Thanks to the RBI and the Securities and Exchange Board of India (SEBI), we have made great strides in automating these processes and minimising systemic risk. This, by itself, is a great advantage in attraction foreign investment, as ceaselessly pointed out by institutions such as the World Bank and market experts.

In the last fortnight or so, the world has seen a cataclysmic change. China revalued its currency. But the cataclysm stopped with that for it was a paltry 2.1 per cent against the dollar and totally out of proportion to the trade surplus it enjoys with the US.

There were faint signs, but no commitment, that it would be the beginning of an upward adjustment over a period of time. The move looks purely symbolic in response to US pressure for revaluation. Just the removal of the peg may keep criticism at bay for some time.

Meanwhile, what of the rupee? A knee-jerk reaction took the market to Rs 43.20 levels in the immediate aftermath of the Chinese revaluation. It proved to be only a flash. The next day saw the exchange rate slide rapidly to about Rs 43.50 - about where it had been before the Chinese announcement.

Unlike China, India has not been subject to American lectures on the need to allow our currency to strengthen. It had been strengthening anyway with only modest RBI intervention to smooth the movement.

And the rupee's buoyancy was more due to high interest rates attracting remittances from the Indian diaspora than a rising trade surplus as in the case of China. The US had little cause to complain about us.

The optimists think that the rupee will appreciate further. Look at the flows of overseas investment into financial markets, real estate and business, they say.

All these seem insufficient to offset the huge jump in our oil import bill. And non-oil imports too are increasing.

With short-term US interest rates approaching 4 per cent and likely to rise further, the interest rate arbitrage has disappeared. The rupee could, therefore, come under pressure in the coming months.

The outlook for the Indian currency is not as sanguine as one might think. Narrow range-bound trading with a modest depreciation would perhaps best describe the situation in the coming months.

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