Teacher. D Mukhopadhyay
Lately, the global economy, including India, seems to have been going through a “currency war”. The world is witnessing intense competition due to the globalization of capital flows, the development of international financial markets and significant advances in information and communication technologies. Economic history shows that Italy, Spain, Greece, Ireland, Portugal and some African countries periodically apply the theory of currency devaluation in order to revive their economies. It is observed that many countries fear that “currency wars” will reign in the booming international financial markets. Let us understand the backdrop of this contemporary context. The INR has been in continuous depreciation mode against the USD and it has crossed 80 INR to 1 USD in the recent past. The financial implication of INR depreciation makes imports more expensive and exports competitive in international markets. More imports mean more foreign exchange outflows and India’s foreign exchange reserve will remain unsatisfactory until foreign exchange inflows increase. According to available statistics, India’s foreign exchange reserve was reduced by $50 billion between September 2021 and July 2022. The INR-USD exchange of INR 73.60 in September 2021 is now at INR 80, implying depreciation of the rupee by 8.70% during the last 10 months whereas the year the depreciation had been between 3% and 3.5%.
Let’s take a look at the balance of payments (BoP) scenario at this point. The BoP account consists of two sub-accounts called current account and capital account. The current account includes the commercial account and the invisibles account. Trade account accounts for exports and imports of goods and exports and imports of services are recorded in the invisibles account. It should be mentioned that the BoP is always balanced. India had a trade deficit balance of (-)$189.50 billion in the financial year 2021-22. However, the invisibles account showed a surplus balance of (+) $150.70 billion, leaving a net deficit balance of (-) $38.80 billion. Inflows from the capital account were $103.10 billion and outflows from the Foreign Portfolio Investors (REITs) account were (-) $16.80, leaving a surplus of $86.30 billion, resulting in a total change in the foreign exchange reserve of (+) 47.5 billion dollars. At this point, the surplus in the balance of payments may lead to an appreciation of the INR against the USD, which implies a change in people’s buying behaviors and investment preferences, as exports become cheaper and imports more expensive. Consequently, the trade deficit will shrink or even evaporate completely. On the contrary, the Reserve Bank of India (RBI) may wish to make India’s foreign exchange reserve healthier by withdrawing excess dollars from the market and ensuring the resilience of the INR and USD exchange rate. It is important to keep in mind that India’s import is significantly US dollar dominated and more expensive imports create pressure on the foreign exchange reserve, consequently affecting the current account balance. As far as exports are concerned, it is likely to generate mixed economic implications. The USD is involved in bilateral trade between India and the United States, while the Euro is relevant for India’s trade with the European Union. is bound to fall under the clutches of currency mismanagement having the past priority. The term “currency war” is a decade-old economic phenomenon coined by Mr. Guido Mantega, Brazil’s Minister of Finance, in September 2010 in response to “quantitative easing” in the United States. An unusual appreciation of the currencies of one or more countries makes the exports of these countries less competitive in international markets, while a frequent depreciation of the currencies of other countries increases the cost of imported products and makes it difficult for the respective governments to repay foreign currency loans.
India had also devalued the INR earlier and the largest devaluation took place in 1966, immediately after the Indo-Pakistani war of 1965. Currency wars resulted from mismanagement of currencies internationally and created economic imbalances. The current form of currency warfare benefits one country against the depreciating currency of another. It seems like a “zero-sum game” in the international market. Now the answer to the question of which country wants to stand as the loser is probably none and that is why this is taking the form of a war. Market economies such as India, Brazil, Argentina, Spain, Greece, Italy, Portugal, etc. are experiencing economic vulnerability under the dominating influence of currency wars. Under these circumstances, central banks such as the Federal Reserve, People’s Bank of China, Central Bank of Japan, etc., emerge as transitory winners, while emerging market-focused economies suffer financial losses. Currency war is a serious problem, especially for emerging free markets and countries with the status of weak currency economies are most affected by the adverse effects of currency war.
The most important strategy for managing the economy is to ensure resilience in the value of the currency which is becoming a challenge for India and similar countries. India is very concerned about controlling inflation and has adopted the policy of hard money lending which is usually recession prone. India and similar countries are assigned less powerful currencies which may invite recession if timely measures are not taken. Moreover, it will weigh on foreign exchange reserves disproportionately. Economies like India are not capable enough to regulate the competitiveness of their products and services in international markets compared to economically advanced countries like China, Japan, USA, Germany, France, etc. . Moreover, it is undeniable that the hard money lending policies of giant economies such as the United States, China and Japan are not free from contributory influence on the likelihood of a global recession in the future. close.
In view of globalization, economic development has become a priority for cooperation and sovereign states should derive benefits from their participation in the international market. The international market is an interconnected state of the economy of sovereign countries across borders. The interconnection takes care of the currencies of the respective countries. In the current scenario of globalized markets, it should be understood that after an international transaction has taken place, it must follow an internationally acceptable currency for the transaction and this mechanism is administered by the exchange rate(s) between the recognized currencies . The exchange rate is the ratio at which one unit of one country’s currency can be exchanged for that of another country. In the international monetary economy, there are three main types of exchange rates, such as floating exchange rate, fixed exchange rate and pegged exchange rate. At the end of the Bretton Woods system, fixed exchange rate terms of currencies were pegged to the value of gold. The floating exchange rate is also known as the flexible exchange rate which falls under the benchmark. Under a floating exchange rate system, the value of currency continues to fluctuate based on the operation of the foreign exchange market by the forces of supply and demand for the currencies involved. However, the major currencies recognized across the world apply a managed float implying that sovereign states generally intervene in the foreign exchange market in order to influence the resilience of the value of their currencies through the action of their central banks such as the RBI. in the case of India. The rate at which national currency can be exchanged determines the price of products and services in international markets.
Exchange rates are of utmost importance in price competition. Consequently, the determination of an exchange rate policy plays an important role in the formulation of the economic growth strategy of the countries concerned. Moreover, devaluation stimulates exports but develops a negative economic spiral if a country participates in the competition of currency devaluation. Currency devaluation of a war-like feature simply harms the normal functioning of the global economy. “Currency war” refers to a competitive devaluation of currencies and cannot be a long-term economic management strategy. Countries participating in international trade aim to gain an economic advantage over other countries by driving down the exchange rates of their currencies against other currencies. Currency fluctuation is the result of the floating exchange rate. India had a fixed exchange rate policy till 1973 which was replaced by the floating exchange rate system thereafter and since then the Indian currency has fluctuated persistently. The lack of confidence of foreign investors in the Indian economy is one of the reasons for the fluctuation in the value of the Indian currency. Uncertainty and lack of transparency in government policies and regulatory bodies generate greater risk exposure in the minds of foreign investors. Consequently, FDI started to withdraw money from the Indian market to invest in advanced economies like the United States.
The Ministry of Finance, Government of India is the fiscal policy maker and the RBI is the national monetary policy maker and money market regulator. The RBI should not subscribe to the theory of hard money lending for long as it could reduce economic activities contributing to excessive unemployment, declining production, business closures, bankruptcies and economic downturn is the ultimate danger of recession. India is trying to counter the Federal Reserve by raising interest rates so that the INR does not lose much against the USD. sectors, promoting the manufacturing sectors of MSMEs and large organizations while taking into account factors such as cost of production and quality aspects in order to make products and services competitive in international markets. Creating jobs, increasing exports and decreasing imports wherever possible can make the economy dynamic.
(The author is former SMVDU Acting Vice Chancellor, Katra)