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Everybody loves a good conspiracy theory, especially equity markets. The rupee’s sharp fall in recent times has sparked many such theories. One of the theories doing the rounds is that the currency typically depreciates in periods preceding general elections. In fact, data from 1984, too, shows that the rupee has tended to weaken in periods preceding elections, which only adds fuel to the fire.
“To fight elections they require money. The theory is, before elections if overseas money is brought into the economy, the depreciated currency benefits the person who brings in the money.” says Deven Choksey, MD, KR Choksey Securities, who believes the current rupee depreciation has a lot to do with the global and India macro situation.
While the theory of the political class weakening the rupee deliberately may be possible pre-1991 (when exchange rates were managed by the government), economists believe that such engineering may be difficult in current times.
The buzz surrounding the theory has been strong because the rupee has depreciated in six out seven occasions prior to elections since 1989 (See Table) – the only time it did the reverse was in 2004 when the BJP-led NDA coalition was in power. However, currency analysts say that the rupee was done with the devaluation soon after the dotcom bubble (in 2000) and after 9/11 (in 2001) attacks on the twin towers in New York. Notably, across different time-frames (starting 6/9/12 months prior to elections), the Sensex has delivered positive returns in a majority of instances.
Even though data is interesting, most economists and market experts refuse to buy this theory of currency’s fall being engineered before elections by politicians. So, what explains this phenomena? One strategist with a foreign brokerage says that even though the theory sounds very exciting, India has always had its own issues to deal with. Political stability has always been a big issue for global investors. And since 2000 onwards, foreign investments into the country have picked up, which is why the interest in India’s governance fabric has also deepened. Indranil Pan, chief economist at Kotak Mahindra Bank, says: “The prospect of no single political party winning a clear majority puts fear in the minds of foreign investors and this can possibly put pressure on the currency. In anticipation of a regime change, investors may become more guarded. This time around we are struggling with various issues impacting the economy and are likely to go into elections in a haze.”
Motilal Oswal, CMD, Motilal Oswal Securities, too, doesn’t see any link between currency depreciation and elections. “I don’t think there is a link between currency depreciation and elections. It is more to do with the uncertainties around elections like fear of existing policies getting reversed, fear of huge money being spent on public welfare schemes, etc.”.
So does Rakesh Arora of Macquarie Capital. He believes that foreign investments have only picked up in a meaningful way over the last decade or so in India. While this theory is doing the rounds, this time around, Arora believes, things are different as FII ownership in Indian equities is at its peak at 22% of listed universe and macro-economic issues have put pressure the currency, which the rupee is in trouble. Given that the rupee is a shallowly traded currency in global markets, it can swing wildly when there is panic selling.
However, after 1991, when India adopted liberal economic policies, the currency has been partially convertible, which means that the government could influence exchange rates beyond a point. This year and the previous elections have happened in the midst of global uncertainty. The rupee depreciated by 28.6% between March 2008 and March 2009 in the wake of the credit crisis that swept across the world after the fall of Lehman Brothers.
But, isn't it ironical that while foreign investors turn cautious during elections which may be the key reason for the pressure on the rupee, the same does not hold true for equities and that too when it is a known fact that foreign investors have a strong influence on Indian equity markets?
