What happens to your money when the rupee falls
Headlines often tell us about the Rupee’s value falling to a new all-time low against the US Dollar. This basically means spending even more in terms of Indian currency to buy US dollars. Monday, the exchange rate broke through the Rs 77 barrier.
Suppose we avoid the temptation to get into the fight between the two sections defending and criticizing the central government for the slippage. In this case, we can answer a crucial citizen-centric question: what happens to our money whenever the rupee falls?
But before we get to that, it might help to answer some other questions. One may ask: why is the value of the rupee determined against the US dollar and why can’t another country’s currency be the benchmark?
THE BENCHMARK IN DOLLARS
The US dollar has become the global currency. The US dollar and Euro are popular and accepted in international markets. The share of the US dollar in foreign currencies in international banks is over 64%. For the euro, it’s about 20%. The US dollar reflects the strength of the US economy.
In 85% of international trade, including crude oil, the US dollar is involved. About 40% of loans worldwide are sanctioned in dollars. On the other hand, the approximately 180 other currencies in the world are mainly used in their country.
Read: The rupee hits a record high against the US dollar, for the second time this week
This brings us to two more questions: why has the US dollar always been stronger than the rupee? Just go back to when you started following the news; and why has the gap widened?
THE GROWING GAP
When the demand for a product is high, its value will be more. Our imports from the United States are greater than what we export there. The dollars we receive from the United States are less than what we need to pay them for their goods. We need to buy more dollars from the banks which represent a small unit in the vast foreign exchange market. This is how superiority was established and the gap continued to widen.
THE CURRENT TRIGGER
The war in Ukraine is an important factor in the decline of the rupee. Russia is the world’s second largest exporter of crude oil. Naturally, supplies were disrupted and prices soared. And India is hard hit as it is the world’s third largest consumer of oil behind the United States and China.
But there are also other factors that weaken the rupee. After the United States, China is our largest trading partner. Strict lockdowns in various Chinese cities have severely affected economic activity there. India naturally pays the price.
The rupee also falls when foreign portfolio investors withdraw money from stock and bond markets. This time they are doing it because of the global uncertainties caused by Russia’s invasion of Ukraine. Additionally, the strengthening of the dollar in line with expectations of better growth in the US economy put pressure on the rupee.
Then we all complain about the rising prices. Prices rise when there are not enough goods, resulting in a gap between supply and demand. Or when money is more abundant in the economy, but we can’t get what we want. This reduces the purchasing power of our currency.
Read: Three reasons why the rupee is falling against the dollar
IMPACT ON YOU
You may think that you have or earn the same amount of money before the last depreciation in the value of the rupee. Thus, you can buy the same quantities of goods or services as before. Nothing has changed, has it? It does not work like that. Let’s unbox this. First, look at an important factor that weakens our currency and also affects us, albeit indirectly.
High crude oil prices not only mean more expensive gasoline and diesel for private vehicle owners, but transporting essentials including fruits, vegetables, edible oil and food grains also costs more expensive. All of this leads to inflation and the depletion of our foreign exchange reserves because we send more dollars on crude oil. This reduces our ability to import other goods that we need. As we are an import-oriented country, this leads to fewer and more expensive foreign goods, and further weakening of the Rupee. If you shop, you spend more.
Here’s what the latest numbers say. Retail inflation in India based on the consumer price index (CPI) hit an eight-year high of 7.79% in April, according to data released by the government on Thursday. Inflation figures are now hovering above the upper limit of the RBI’s 2-6% tolerance band for four consecutive months. On the other hand, the country’s foreign exchange reserves shrunk by $28.05 billion to $607.31 billion at the end of March this year, from $635.36 billion at the end of September 2021, according to a RBI report.
If you put the brakes on spending, it leads to lower demand for goods and services – activities like construction, manufacturing, and imports slow down. Companies can hire fewer employees. The global economy takes a hit. You feel the pinch of the rupee slide.
Less manpower and machinery will be needed. The government will have a reduced ability to spend on building infrastructure and other social projects. Investment goes down. This aggravates the jobs crisis. And we know that ordinary citizens are the most affected.
A falling rupee also makes it more expensive for you to study and travel abroad, as your fees and tickets cost more than the dollar value.
WHO DECIDES THE VALUE?
But who exactly decides the value of the rupee? Is it the Indian government? United States? No one in particular really does.
Foreign currency exchange rates are floating and depend on daily market factors such as demand and supply, with no or minimal intervention from the countries involved. The higher the demand, the higher the value.
For example, heavy imports, which mean more dollars purchased, decrease the value of our currency. Similarly, in the case of massive exports, more dollars will flow into India and become cheaper for us to buy through the rupee. Currency transactions take place in the forex market which was mentioned earlier in the article.
WHEN THE SLIDE HELPS
But that’s not all pessimistic about the Rupee’s depreciation. Non-Resident Indians (NRIs), in countries like the United States, United Kingdom, or United Arab Emirates, can send more money home due to favorable exchange rates. NRIs can also take loans abroad and invest in India.
On the other hand, a falling rupee helps exporters to receive more rupees in exchange for dollars. In other words, it gives foreign buyers more buying power. But they also have to spend more due to higher production and processing costs due to expensive imported raw materials like petroleum products, gemstones and jewelry, electronics and pharmaceuticals.
LIMITED GOVERNMENT OPTIONS
So, can’t the government do anything when there is a significant drop in the value of the rupee? It is possible but the options are limited. The government can try to reverse the weak demand for the rupee by buying, through public banks, the Indian currency on the market using the US dollar reserves it keeps. More dollars in circulation means less value. Fewer rupees in circulation means higher value.
But it can also backfire on you. When the government empties its foreign exchange reserves, it will not be able to import all the necessary goods that people and industry need. This will cause prices to rise and pinch us all. We have seen how inflation weakens the currency. So it’s a vicious cycle.
The other option is that the Reserve Bank of India (RBI) could increase the rate at which it lends money to banks. A higher interest rate means more investors are buying government bonds and interest rate products due to higher yields. The rupee will be more in demand and its value will increase.
Similarly, when the United States raises interest rates, investors from other countries flock there and the dollar strengthens. But those who take out housing, car and other loans will be negatively affected as they pay back more.
Read: The rupee hits a new low against the dollar | High points
WHY NOT PRINT MORE?
Finally, a question some may ask: why can’t the government print more currency? Indeed, when the government prints money to meet its needs without the economy growing at the same rate, it can lead to disaster. More money will drive up the demand for goods and services. They will become rare or rare. Hyperinflation will skyrocket. And your banknotes and coins will not be able to buy anything.
We saw what happened in Zimbabwe.