Currency Depreciation

Context: The Indian Rupee recently slipped past the ₹90 per US dollar mark, making it one of Asia’s worst-performing currencies in 2025, even as GDP growth remains robust.

About Currency Depreciation:

What it is?

• Currency depreciation is a fall in the value of a domestic currency against a foreign currency under a market-determined (floating) exchange rate system. It is the opposite of appreciation and reflects excess supply or weak demand for the domestic currency in forex markets.

Key Features:

• It alters relative prices: exports become cheaper in foreign currency, imports costlier in domestic currency.
• It can be gradual or sudden, driven by trade, capital flows, expectations, or policy choices.
• It affects inflation, external debt, capital flows, and growth simultaneously, not just exports.

Causes of Rupee Depreciation:

• Capital Outflows & FPI Selling: Foreign investors have shifted funds from Indian markets to higher-return AI and tech stocks abroad, reducing demand for the rupee and raising demand for dollars.
• Trade Tensions & Tariffs: Higher US tariffs on Indian exports, uncertainty over trade deals, and global protectionism have weakened export prospects, lowering forex earnings.
• Widening Current & Capital Account Pressures: Costlier crude oil (especially after curbs on cheap Russian oil) and high gold prices have widened the trade deficit, raising India’s external financing needs.
• Relative Interest Rate & Dollar Strength: Tight US monetary policy and strong dollar assets attract global capital, making emerging market currencies like the rupee relatively unattractive.
• Risk Sentiment & Geopolitics: Ongoing wars, sanctions, and global uncertainty push investors into “safe havens” like the US dollar and gold, adding pressure on the rupee.

Implications of Currency Depreciation:

• Potential Benefits:

• • Improved Export Price Competitiveness: A weaker rupee can make Indian goods cheaper in dollar/euro terms, supporting sectors like textiles, IT-enabled services, and generic pharma—if export capacity and demand conditions are favourable.
  • Substitution Away from Imports: Costlier imports may push firms and consumers towards domestically produced alternatives, supporting “Make in India” and local value chains in the medium term.

• Risks and Costs:

• • Imported Inflation: Higher rupee cost of oil, gas, fertilisers, electronics, edible oils and gold can feed into CPI and WPI, forcing RBI to tighten monetary policy and potentially slowing growth.
  • Worsening CAD & External Vulnerability: India remains a net importer of energy and capital goods; if import volumes don’t fall, the current account deficit (CAD) can widen despite depreciation.
  • Burden on External Debt & Corporate Balance Sheets: Firms and government entities with dollar-denominated loans face higher repayment costs in rupees, pressuring corporate balance sheets and public finance.
  • Market Volatility & Investor Confidence: A persistently falling rupee can create a perception of macroeconomic weakness, discouraging long-term FDI and raising the risk premium on India.

Methods to Counter Rupee Depreciation:

• Prudent RBI Intervention: Use forex reserves to smooth volatility (not defend a fixed level), intervene in spot and forward markets, and deploy swap lines with other central banks.
• Interest Rate and Liquidity Management: Calibrated rate hikes and tighter liquidity can make rupee assets more attractive, but must balance inflation control with growth concerns.
• Incentivising Forex Inflows:
  • Offer attractive terms on NRI deposits, sovereign or quasi-sovereign dollar bonds, and special FCNR schemes.
  • Provide interest subvention or tax incentives to exporters who repatriate earnings early and hold forex in India.
• Deepening Local Currency Use in Trade: Encourage INR invoicing in bilateral trade, especially with key partners, and promote currency swap arrangements to reduce dollar dependence.
• Structural: Boost Productivity & Export Capacity: Invest in R&D, logistics, ports, power, skilling, and digital infrastructure so that export competitiveness comes from productivity, not a chronically weak rupee.

Significance of a Stable Rupee:

• Macroeconomic Credibility: A relatively stable rupee signals sound fundamentals, disciplined macro policy, and low inflation expectations, reassuring investors and rating agencies.
• Planning & Investment Certainty: Exchange rate stability lowers hedging costs and gives firms clarity for pricing, contracting, and long-term investment decisions.