Analyzing the Recent Decline of the Rupee: Underestimating the Dollar?

As discussions around the economic landscape grow more intense, a pivotal question arises: how long will the rupee continue to fall? Accompanying this query is a need to evaluate the adequacy of our policies regarding the rupee. Was the U.S. Federal Reserve's strategy of slashing interest rates effective? Should the Reserve Bank of India's (RBI) Monetary Policy Committee have opted to lower policy rates as well?

The dynamics of economics are ever-changing, a principle that becomes particularly evident during turbulent times. Over the last few months, the prevailing narratives surrounding economies have shifted dramatically. Although various data points have evolved, the true implications of such changes often elude experts until they culminate into a significant trend, as evidenced by the current state of the rupee.

Since late 2024, the dollar has experienced a general strength against most currencies. Despite this, analysts and traders maintained a belief in the resilience of India's economy, assuming it would ensure a stronger rupee against the dollar compared to other currencies. However, sentiments shifted sharply following Donald Trump's victory in the U.S. presidential elections. In the short three-month span post-election, the rupee has depreciated by approximately 3% against the dollar, with forecasts suggesting it could plunge to a range of 90 to 95 against the U.S. currency in the near future.

Assessing the Situation

Fluctuations in currency value are a typical occurrence, mostly dictated by demand, supply, and trade dynamics. However, it appears that the prevailing sentiment may have led many to underestimate the strength of the dollar. The likelihood of Trump returning to power was always substantial, and his commitment to the 'Make America Great Again' agenda could have been anticipated more seriously. Many observers expected the rupee to remain stable due to India's robust macroeconomic conditions, but this optimism proved overly ambitious.

Factors contributing to the dollar's strengthening extend beyond just Trump; they encompass a broader perspective of American economic health. Amidst geopolitical tensions, the U.S. Federal Reserve's decision to continuously reduce interest rates played a critical role in bolstering investments. This proactive approach has yielded positive results for the U.S. economy. In contrast, the RBI has maintained its policy rates stable for over 21 months, which has adversely impacted private investments within the country.

A notable aspect enhancing the American dollar's position is the recent boom in its stock market. The rise of cutting-edge technologies, particularly in artificial intelligence, has significantly driven up the valuation of companies like Nvidia and other Big Tech firms. Noted investor Ruchir Sharma emphasized in a recent interview that while the U.S. constitutes just 30% of the global economy, its stock market accounts for an astounding 70% of the global indices, indicating a lack of equivalent investment opportunities elsewhere.

India's Current Challenge

Indian corporations that have heavily borrowed in U.S. dollars now face serious repayment issues. For instance, if a company has an obligation to repay 1 million dollars in loans, at the current exchange rate of Rs 86.18 per dollar, the amount owed is approximately Rs 8,618,000. Just a month prior, the same debt would have cost Rs 8,482,000. This increase of roughly Rs 136,000 underscores the financial strain of rupee depreciation.

Additionally, individuals seeking education abroad, importers, and travelers are likely to feel the adverse effects of this currency decline. But will this trend continue? Many analysts predict that it will.

The SBI Economic Research team recently provided an insightful observation, stating, "Empirical evidence suggests that the Trump Tantrum for INR will be a short-term phenomenon, and the rupee should adjust after the initial shock of the early days of the presidency." This sentiment underscores hope for stabilization in the long run.

Raising Important Questions

In light of the current economic scenario, crucial questions must be addressed: was the Fed's decision to lower interest rates justified? Should the RBI's Monetary Policy Committee have explored cutting rates? A reduction in interest rates by the RBI might have stimulated greater private sector investment, signaling positive market trends. As such, many analysts who previously urged the RBI to consider reducing rates have since reevaluated their positions.

rupee, dollar, economy