| It is hard to argue that the giveaways to exporters totalling Rs 1,400 crore, announced on Thursday, can counter-act the effect of an 8 per cent rise in the value of the rupee vis-à-vis the dollar. If macro-economic problems could be fixed at such little cost, life would be easy. The question is whether more should be done to reduce the inflow of dollars, which is what is driving up the rupee, or whether matters should now be left to the market. |
| If the commerce ministry is not crying wolf when it forecasts that imports this year will balloon even as exports flatten out, with growth in the low single-digits compared to an average of 20 per cent and more in recent years, then it is a safe bet that the current account deficit will shoot up this year. Already, the trade deficit has careened upwards by 60 per cent in April-May. So, within a year or less, the bets on the rupee will change and today's inflows of capital could evaporate as overseas investors start seeing the risk of a falling rupee. In short, the problem of an abundance of dollars sending the rupee to unsustainable levels will solve itself in a year's time, the beauty of the market would have been demonstrated, and therefore nothing needs to be done. |
| The counter-view would be that there is no guarantee that this corrective will work itself out in a year, and the real economy cannot be expected to suffer for the medium term; something therefore needs to be done now. If export incentives are limited in scope, then the RBI may have to look at more sterilisation of dollar inflows. The government on its part might be tempted to look at more radical responses. For instance, it could reduce domestic players' access to international capital""the limit on external commercial borrowings has been raised in stages over the years; this could be reversed quite easily and companies asked to borrow domestically instead. |
| The betting by international investors today is that the rupee might continue to appreciate in value, and certainly not depreciate, so there is no currency risk in investing in India. If that expectation could be changed in some way, the inflows would slow down. |
| If it gets desperate, the government could consider changing the tax law on dividend pay-outs so as to make equity less attractive (which would affect investments by foreign institutional investors, or FIIs). And negotiations could be started with Mauritius for a re-working of the double taxation treaty between the two countries. Even a hint of such action would make overseas investors start to limit their bets on the Indian market, and the objective of slowing down relatively hot capital inflows would have been served. |
| The problem is in some ways an optical one. FII investment sends up share prices, which makes millions of investors happy. As the rupee climbs, imports become cheaper and this suits a lot of import-dependent producers. And big announcements on foreign direct investment (like the one by Posco) make for upbeat news: India is shining! In comparison, manufacturer-exporters beaver away out of sight. Most of them are small and medium enterprises, located away from the media-intensive metro markets, selling leather goods, cut diamonds, engineering items of all kinds, garments and textiles. They do not command much lobbying power and do not get the media attention that the beneficiaries of dollar inflows do. So their difficulties become invisible""until the macro-numbers start reflecting them, after months have elapsed. |
| The problem also is that the stellar export sector, which is software services, has such handsome profit margins that it can cope with a rising rupee even if margins fall and share prices take a knock (as has happened with Infosys). But if BPO outfits (which have much thinner margins) start shutting down, throwing thousands of youngsters out of work, then the export problem and manufacturer-exporters' woes will gain more media mileage, and pressure on the government to do something will increase. My suspicion is that this point of inflection is not very far away. All we need is another two months of bad trade news. |
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