The Indian Rupee (Part II: The Fall)

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Continuation of the previous post: The Indian Rupee (Part I: The Rise)
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The very same factors, that led to the rise of the Rupee, reversed rapidly in 2008. This led to a huge fall in the Rupee. However, there are a couple of more factors which accelerated this cycle:

Vicious cycle of stock market returns and currency depreciation: The returns for global financial institutions investing in India depend on the performance of the stock market and the currency exchange rate. Let us take the case of a firm that had invested 100$ in India in early 2008 (when the currency rate was 40Rs./$). Using the 100$ they got 4,000 Rs. and let us assume that the firm invested the money in stocks. Now in 2009, with the stock market down let us assume the value of the stocks that the company owned has come down by 50%. The value of the investment now is 2,000 Rs. However, it would be wrong to say that the loss of the firm is just 50%. If the firm wants its money back, it will have to convert the Rupees into Dollars. Now, if the exchange rate is at 50Rs./$ in 2009, then the company will get only 40$ (2,000/50). Thus the ‘true return’ for the firm will not be negative 50% but will now be negative 60%. Due to the double whammy of stock market decline and depreciating Rupee, global financial institutions are pulling money out in droves. To exit India, they sell Rupees - thus increasing the supply of Rupees. This drives down the Rupee further, which leads to even worse ‘true returns’ which further causes more financial institutions to exit India. India’s stock market dropped more than the US and other developed countries in 2008. Hence financial institutions that had invested in India, started to exit, leading to this vicious cycle - which has been one of the key factors driving the fall of the Rupee.

Uncertain future: We all know that the American consumer has taken on excessive debt. In India, this role has been taken over by the government. Of the major economies, India has one of the greatest debt burden. This essentially means that the government is borrowing a lot of money to finance its huge expenses (salary hike for government service employees, loan waiver for the farmers, stimulus packages, etc.). The debt levels have risen to alarming levels, leading to a downgrade by rating agencies. Elections are round the corner, and people are predicting a hung parliament. The lack of a single party government will ensure that strong polices will not be enacted to reduce the debt burden. The hung parliament will also be an impediment to reforms (which as desperately needed at such times). To top it all, if India has a bad monsoon this year, things could get really bad. Hence companies are shying away from investing in India, thus reducing demand, and driving down the Rupee further.

Looking ahead, all these factors are not expected to reverse in a hurry. The Rupee will likely go down further, as the year goes along.


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This post presents a point of view which differs from conventional wisdom. Apart from being a good read (hopefully), it can also be a good starting point to help readers, preparing for CAT (IIM) or other MBA interviews, think differently. Since the data / facts for these posts are derived from a host of sources and websites, readers are advised to cross-check the authenticity before using them anywhere.