Disclaimer: A Fi employee authored this blog, and all views or information provided here are their personal opinions.
This article is just a humble attempt to make sense of what we read in the headlines, how it makes sense to an average Joe and de-jargonise ‘Fi’nance.
(For context, I am currently employed with Fi and the primary mission of Fi is to make finance simpler for everyone, in theory & action.)
Well, I ended my last blog talking about currency devaluation (You can read it here) and how some countries intentionally devalue their currencies, so that they can be competitive in the export market. But currency devaluation does not happen all the time, and sometimes the forces of the market determine if the Indian rupee gains/loses against not only the dollar, but also some of the major currencies like the Euro as well. Nowadays whenever you open a business publication, there is a constant refrain of “Market forces”..if I had a rupee for every time I heard this word, I would be a millionaire by now. What exactly are these forces? And whenever the rupee gains/falls vis-a-vis the dollar, you find this word being bandied about. You may ask yourself, What Jedi-like forces are so powerful that they move the value of our currency. In the Indian context, currency depreciation refers to the Indian Rupee losing value against other major global currencies like the US Dollar or the Euro. In a nutshell, it now takes more rupees to buy 1 USD/1 Euro.
Nirmala Tai once remarked that the “Indian rupee did not lose, but the dollar gained in strength”. This statement made all of us take the mickey out of her, but surprisingly this statement was not made in jest.
Well, the exchange rate between two currencies is generally determined by the economic activity, market interest rates, gross domestic product, and unemployment rate in each of the countries. And if these factors actually improve in the US, vis-a-vis India, then the dollar starts to gain over our currency.
Even though market forces are seemingly complex factors that affect these currency movements, the underlying principles of Economics hold true and I’ll be taking a few simplistic examples to explain how the currency depreciates.
Basic Economics 101 dictates that if with higher demand a product, the price increases. Imagine a situation when the central bank raises interest rates in the country, This makes it attractive for foreign investors to park cash in India. Since there is a high demand for the Indian rupee, and our coffers are full of dollars the rupee rates appreciate (the rupee gains over the dollar. Taking a hypothetical example - What was 82 INR=1 USD is now 79 INR for 1 USD). However, if interest rates are too high, it can also lead to capital outflows, which can cause the currency to depreciate.
If a country's economy is growing rapidly, it may lead to inflation, which can cause the currency to depreciate. This is because inflation makes a country's exports more expensive for foreign buyers, and it also makes imports cheaper for domestic buyers. So now the country’s coffers have less dollars as compared to the Indian rupee and as the dollar is scarce, the dollar becomes costlier as compared to the Indian rupee.
If a country is importing more goods and services than it is exporting, it can lead to currency depreciation. This is because the country will have to sell more of its currency to buy the imports, which will drive down the value of the currency.
If a country is experiencing political instability, it can lead to currency depreciation. This is because investors may become less confident in the country's economy and may decide to invest their money elsewhere.
But should you lose any sleep over what’s happening on the global stage?
Currency depreciation affects us more than we realize. When ₹ takes a dip on in international markets, those awesome foreign finds and gadgets can become pricier and it might end up burning a bigger hole in your pocket. Next time when you order something from your cousins travelling from the US, remember that it's going to end up being costlier every time. The international vacation that you had planned a year back and saved up for, doesn’t seem to add up when you actually start booking hotels and packages. There’s no way to escape it but there is one way to lessen the hit that you take on Forex markups when traveling.
Without a good Forex card that gives you ZERO forex, you will face a double whammy of paying more for every dollar spent as well as a ~2.5-3% markup on every spend. That’s where you can check out the International Debit Card on Fi. You get an International Debit Card from Federal Bank and once you activate the card for international transactions, you incur 0-Forex on any of your international spends, when you hop on to the Plus and Infinite plans on Fi.
Sometimes Governments intentionally devalue their currency to make their exports competitive. So, if the currency depreciates automatically shouldn't our exports then become competitive automatically and we end up making more in the process? Let’s imagine for a second you are a smartphone manufacturer in this context. You wake up next morning and the rupee is now ₹83 against 1 USD vs ₹79 last night. You rejoice for a second because buyers can get more of your phones for the same amount of their currency. Yay, right?
Well, yes and no. While this can boost your exports, it also means your import bills go up too, because now the raw materials and components become costlier, potentially squeezing your profit margins. In fact when this happens with all kinds of manufacturers who rely on exports and imports for their business, the cost of business goes up significantly when the rupee slides.
Considering our imports are more than exports at a global stage, the increase in the import bill somehow finds its way back to increased domestic prices as well, since the manufacturers also have to maintain their margin. This in turn affects inflation on the domestic scale, and it hurts our wallets in the long run. It truly is a delicate dance between exports and imports and prices that currency depreciation choreographs.
It is this delicate balance that Central Banks like the RBI maintain to keep the exchange rates from going crazy. So you see, currency depreciation tugs at the global trade landscape as well as our daily lives.