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Falling rupee and a balance of payments flux — What can be done?

Even if India records a negative BOP of $100-125 billion in 2022-23, the forex reserves will come down to only $500 billion or so, which is very large for India’s needs from any standpoint. Thus, there is no need to panic 

July 13, 2022 / 09:50 AM IST
Reserve Bank of India (RBI) (Source: Shutterstock)

Reserve Bank of India (RBI) (Source: Shutterstock)


Change in the rupee-dollar exchange rate (other currencies have only a marginal role) represents the rupee’s external value. The rupee is just shy of kissing 80 to a dollar, depreciating about 6.6 percent in 2022.

The Reserve Bank of India (RBI), in charge of both internal and external value of rupee, repeatedly insists that its policy is to maintain orderliness in foreign exchange markets, and it has no specific exchange rate target.

The rupee-dollar exchange rate is also determined by demand and supply of dollars, which is in a huge state of flux currently.

Rs 80 to $1 is a significant marker. If not handled adroitly, there is a good chance that the rupee might slide further towards Rs 85 to a dollar by the end of 2022.

Turmoil In Goods Trade Account

Two of the four components of the current account — merchandise trade, and incomes transfer — recorded deficits of $190 billion and $37 billion respectively in 2021-22. The other two — services, and transfer of savings, primarily remittances — raked-in surpluses of $108 billion and $80 billion respectively. On a net basis, the current account had a deficit of $39 billion.

Things are shaping up more dangerously in 2022-23.

The prices of crude oil, gold, and electronic goods, which primarily account for India’s trade deficit, continue to remain highly elevated. The government’s insistence on large scale coal imports will add significantly to imports. India’s import bill, which was $618 billion in 2021-22, might cross $650 billion this year.

India has handled exports in a discordant manner. Export duties on steel and petroleum products have been raised. Export of wheat and sugar has been banned and regulated respectively. India’s exports in the last three months have declined. India’s exports are unlikely to cross $400 billion in 2022-23.

India’s trade account deficit is set to cross $250 billion. The other three components are likely to stay on trend.

A current account deficit in excess of $100 billion, a very serious possibility, will require the RBI to find $100 billion for meeting the net demand.

Bigger Flux

Foreign direct investment (FDI), foreign portfolio investment (FPI), loans, including external commercial borrowings (ECBs), and banking capital make up flows on the capital account. The FDI has contributed steady high order inflows. Banking capital is usually negative, but not in big measure. The FPI and the ECBs are the most volatile elements of the capital account.

The FDI inflows were $80 billion in 2020-21. The FPI inflows were also very high at $36 billion in 2021-22. Banking capital recorded negative flows of $21 million and the ECBs were marginally in the negative, though there were positive flows of $32 billion in 2019-20. On a net basis, there was a positive inflow of $64 billion in the capital account in 2020-21.

The capital flow situation started deteriorating in the second half of 2021-22. In the October-December 2021 quarter, the FDI inflows were only $8.8 billion against $20 billion the year before. Portfolio investments started exiting, recording $5.8 billion of the outflow, whereas in the previous year there were net inflows of $21.7 billion in the same quarter.

The capital account is in serious trouble currently. In the first half of calendar year 2022, more than $30 billion worth of portfolio investment has been withdrawn to safer shores. Despite the RBI’s prompting and some relaxations, there are few takers for the ECBs.

There is a serious likelihood that India might record a negative inflow in the capital account this year.

Forex Reserves Are Adequate

India’s forex reserves reached a peak of $640 billion by October 2021 increasing by $60 billion in six months. The forex reserves got reduced to $606 billion by end March 2022, losing about $35 billion in the second half.

However, there should not be any panic. Even if India records a negative BOP of $100-125 billion in 2022-23, it would be fine. The forex reserves will come down to only $500 billion or so, which is very large for India’s needs from any standpoint.

Good Policy Options

Designating imports and exports in Indian rupees, allowed on July 11, is not going to make any difference. India should adopt more structural policy reforms to better management of its BOP and rupee-dollar exchange rate.

First, build a functional exchange rate policy framework for anchoring INR-USD exchange rate depreciation/appreciation to Indian and US inflation rate differential, or to Indian inflation rate and a corridor (a la domestic inflation targeting anchor). Besides helping the RBI in managing exchange value of the rupee, it can also be held accountable more objectively.

Second, India runs a net negative international investment account position — of over $330 billion with overwhelming private liabilities and substantially RBI-owned assets. Composition of India’s external assets should be gradually altered to match assets-liabilities in private hands.

Third, it is time to revive the proposal to issue foreign currency India sovereign bonds (SGB) made in the 2019-20 budget to raise $10-15 billion in SGBs a year. The fully accessible route (FAR), which the government adopted instead, has failed, and has much larger risks.

Subhash Chandra Garg, currently Chief Policy Adviser, Subhanjali, is former Union Finance Secretary, and author of The $10 Trillion Dream.

Views are personal and do not represent the stand of this publication.
Subhash Chandra Garg , currently Chief Policy Adviser, Subhanjali, is former Union Finance Secretary, and author of The $10 Trillion Dream.