Quick Take | An out of step rupee-crude movement suggests a weakening economy

India Economy

Shishir Asthana

The year 2018 will be remembered by currency traders for a long time. The rupee which started the year at 63.7 to a US dollar is likely to close around the 70 mark, a fall of 9.8 percent. This fall, however, does not capture the anxious moments for the government, importers and traders when it touched its lowest level ever at 74.4 to a dollar as crude oil prices rose to $85 a barrel.

Rupee depreciation against the US dollar is at a five-year high as compared to a 20-year average annual depreciation of 3 percent. However, oil is now below the $50 mark, a fall of over 30 percent but the rupee has corrected by only 5.7 percent from its peak. So why is the rupee not gaining in strength despite the sharp fall in oil prices?

India is one of the largest importers of oil in the world, importing nearly 80 percent of its requirement. However, oil is only one of the reasons that caused the currency to weaken in 2018. Though oil prices have come down, the underlying economy is showing signs of stress.

Take the case of the current account of deficit (CAD) which has widened to 2.9 percent of the GDP in the second quarter of this fiscal as compared to 1.1 percent in the previous year. While a large part of this is due to high oil prices, it’s also true that our non-oil deficit too has gone up.

Further, a global slowdown on account of the US-China trade war is expected to impact India’s exports which have slowed sharply in November 2018 to 0.8 percent as compared to 17.86 percent in October 2018.

A bigger problem is the structural weakness in the economy with India’s fiscal deficit near 115 percent of the 2018-19 target. With elections around the corner and the recent performance of the government in state elections it is very likely the government will launch a series of populist measures which will dent the deficit further.

Both FII and FDI investors would not be keen on betting on India in these circumstances. Thus, even though oil prices have dropped sharply and other factors like a strengthening dollar and liquidity stress in the NBFC sector which were all responsible for the fall in rupee have sorted themselves out, the rupee continues to remain relatively weak.