Rupee depreciation: Are we on the same page?

That is what the Reserve Bank of India (RBI) Governor D Subbarao would like everyone to be on while discussing the sharp rupee depreciation against the US greenback. The Indian rupee has been mauled nearly 20 per cent in the last one year.  And the downslide is unstoppable. The rupee closed at 52.22 against the dollar on Tuesday, the second week of December 2011.  Why the dramatic slide?  Subbarao isn't the only one in the hot seat.

Some trigger happy commentators are quick to fire the central bank for not selling dollars from its foreign exchange reserves kitty of $300 billion, an action that could have cushioned the rupee's plunge. But that's easier said than done. There are far reaching implications of a forex sale that can outweigh the expected gains (Read: Why is the rupee falling?). Remember, India had foreign exchange reserves of just $10 billion exactly two decades ago when Prime Minister Chandra Shekhar's coalition government was at the centre and Yashwant Sinha was the finance minister. Thanks to FII inflows into Indian equity markets, the foreign exchange reserves have grown big time since the early 90s. But a big chunk of the reserves actually started flowing from the early 2000 period when foreign institutional investor (FIIs) started investing dollars in the Indian market. The rupee, too, appreciated big time to 38-39 levels in early 2008.

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So what's pulling the rupee down now? Clearly, dollar inflows - especially short-term hot inflows into the Indian equity market - are vanishing fast because of global troubles and high valuations of Indian companies. The RBI Governor will surely rest his case on the lack of focus in terms of attracting longer term foreign direct investments into India. Past governments were never able to pull their act together enough to attract more stable dollar inflows through the FDI route. Whatever little FDI that comes into India is also on the decline from $40 billion in 2008 to $25 billion in 2010. That amount is peanuts compared with neighbouring China. China, which unlike India has no sectoral limits for FDI, pocketed $185 billion in 2010. The Chinese FDI inflows were always well over $100 billion annually in the past. China runs a trade surplus and the currency is also inherently quite strong, though they peg it at a fixed rate to the dollar. India could have attracted FDI inflows had it relaxed foreign investments in retail, insurance, pension, defence, aviation and a host of other sectors. Some of these reforms have been pending for nearly a decade. Call it a last minute desperate measure or a larger reform exercise, the move to allow FDI in multi-brand retail brands last fortnight also fell flat because of stiff opposition from UPA allies and opposition parties.

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There are also softer measures - besides the FDI cap - that need attention from the government, say some experts.  

"There is also a perception issue," says Frank Richter, chairman of Horasis, a Zurich-based global business community forum. Frank, who met BT in a one-to-one meeting recently, highlighted issues like corruption, bureaucracy, regulations, delays in land acquisition and environmental issues as obstacles to global investors.     

"India needs a stronger export focus," advises Richter, who worked in China and Japan for well over a decade. "FDI will only make Indian companies more competitive in the global marketplace," he adds.  If Indian companies have to adapt to more competition at home, they'll be better placed in the global market. China is a great example of allowing foreigners in all sectors and then competing with them head on.

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The strength of a currency always reflects the demand and supply of dollars in the market. India historically runs a huge current account deficit (more imports  than exports, meaning more dollars are going out of the country than are coming in). So be it a trade window or an investment window, dollars are in short supply. The FIIs are also pulling out dollars from the Indian stock market to shift to other attractive destinations.  

Today, the way the rupee is slipping, the central bank is as helpless as the corporate sector (with exposure in forex debt, imported raw materials etc). So if the rupee breaches the $55 mark against the US dollar, don't blame the RBI Governor alone. There are other bigger culprits roaming scot free!