On the valuation of the rupee vis-a-vis the dollar, why it matters, and what it means.

Recently, at least in the national press in India there has been a lot of publishing on the fact that in no one’s lifetime has the rupee - India’s national currency fared as poorly against the US dollar. As of the 22nd of October it trades at 82.54 rupees for a dollar. Why does this matter? Principally foreign exchange reserves are held by the central banks of national economies as a form of security against the balance of trade which may be operational vis-a-vis other national economies. These, because they are often long term agreements backed by promissory credit reflect as deficits. Reserves in the form of foreign currencies, usually the US dollar hence serve as a medium to meet debts and obligations were a foreign power to demand the sums due to it. Not very much unlike a bank asking for  repayments on a loan for instance. 

Why is this present weakness of the rupee vis-a-vis the dollar the case? Nirmala Sitharaman, the Finance Minister of India stated on the 17th of October at a media briefing in Washington D.C that this is mostly due to the strengthening of the dollar. This in itself may be true. She also added however that the rupee is doing comparatively well amidst other national currencies in the Asia-Pacific region. This does not seem to be correct. By 2021 for instance it was evident that the rupee was closing as Asia’s worst performing currency. The stock exchange had 4 billion $ worth of global capital pulled out of it. 

A devalued rupee however is not only a matter of concern regarding its relative worth vis-a-vis the dollar. Domestically a good test to determine whether this relative depreciation is only a matter of the dollar strengthening or whether it actually reflects issues with the industry itself is to see if there appears to be a rising inflation in the price of commodities locally. Inflation for the month of September this year was 7.4% with the average across the annum thus far being the highest ever in the last five years.  

In terms of the commodities which have seen most consistent inflation are semiconductor chips, an essential component in cars, washing machines, smartphones and laptops. Vendors across the board have allegedly increased prices from 5 to 15% on these. There is also a supply side issue with India importing 91% of its semiconductors, primarily from China, Vietnam, Taiwan and Korea. 

India also imports 85% of its oil and 50% of its natural gas. A weakening rupee coupled with oil trading at a 88$ per barrel means that oil imports and its derivatives such as diesel and petrol will cost us dearer, with both petrol and diesel hitting historically high prices.

If these are the major indicators of our international front in terms of trade imports, how is the domestic industry doing? In terms of the sectoral composition of the economy to India’s GDP, the agricultural sector contributes just under 17%, manufacture is at 29% and the service sector at 55%. These are figures taken from the last year. Our presently estimated Gross Domestic Product is 3.469 trillion USD.  

The question to ask then is how precisely is the strength of a currency evaluated? And, principally this is not altogether different from how any commodity is evaluated. There are however a few keystones to keep in mind regarding the history of such valuations, most recently the dissolution of the gold standard which was set up during the Breton Woods agreement in July 1944. This agreement was signed by America, Canada, Western European states, Australia and Japan who agreed that their currencies would remain convertible to the U.S dollar at fixed rates adjustable within a 1% band. The dollar itself however was fixed to gold at 35$ to an ounce. The U.S hence had the responsibility of keeping the price of gold fixed. Which effectively meant stocking the Federal Reserve with gold which was commensurate to the supply of dollars which it regulated. 

Because of significant investments made by the U.S overseas since the signing of the Breton Woods agreement, the amount of dollars abroad increased substantially. President Kennedy did take cognisance off this when on the 6th of February 1961 in a special message to the Congress he noted that from 1950 - 1957 the amount of dollars held in foreign countries had increased from 8.4 billion $ to 15 billion $. Much of this of course had gone to Europe for reconstruction purposes after the war. And it was the intent of the Breton Woods agreement to discourage competitive devaluations between nations which would lead to trade suffering between them. The fixed rates hence accounted for this. Yet what these measures led to was a situation where there was more USD circulating in Europe and abroad than the U.S Federal Reserve had backed in gold stocks. This led to the US Federal Bank restricting bank lending abroad and their Department of Commerce restricting foreign direct investment. 

Nevertheless, a consequence however was that by 1960 the price of gold had risen from the agreed upon figure of 35 $ an ounce to 40 $ an ounce. This coincided with the presidential race. The Federal bank, coordinating with political authorities were led to sell gold to bring its price down. By 1968 Central Banks of the Breton Woods Agreement decided that they would no longer supply gold to the market and would only trade among themselves to avoid price instabilities. In August 1971 the IMF abolished the Gold Standard marking the end of what was perhaps the essential feature of the Breton Woods Agreement.  

However these macro level configurations aside, does not the central bank of a country determine the price at which its tendered currency is pegged at? The short answer would be yes, by determining the supply of money available in an economy. The money supply is usually available as deposits in banks and as cash holdings by consumers. The question then becomes against what is the money in question valued? And this is where the relative demand for available commodities becomes a determining principle, and of course their own supply or scarcity. 

A central bank may however choose to peg its currency against a stronger currency, usually in a more developed economy as this would allow its domestic products to  access broader markets with less risk. This is as you may notice not unlike the earlier system of member nations to an agreement pegging their currency to the dollar. Presently there are 14 nations who still practice this and Hong Kong would be an example which has fixed its domestic tender the HKD to the USD at 7.80 since 1983.

An example of an essential sector which we should look at are our educational institutions. India for instance has just under 1.5 million schools, 45ooo colleges and over a 1000 universities. The school going population of India is about 400 million pupils. This would mean that each school would have to accommodate about 267 children each to be able to provide an education for the school going populace. Sadly, in the period of 2012 to 2020 the number of children who go to school has actually declined from 254.8 million to 250 million. This was even as the population increased from 1.22 billion to 1.65 billion. The proportion of children, that is those aged between 0-6 has been declining in India since 1991. Worrying trends indeed. 

This has been witnessed despite incentives such as the Mid Day Meal Scheme which initially began in Pondicherry under French rule in 1930. It was then implemented in Tamil Nadu in the 60’s and was operational in all states under orders of the Supreme Court of India by 2002. Clearly there is a lack of faith in the educational system at the primary level itself which cannot be buttressed by incentives in kind. 

In 2020 investments in the educational sector in India reached 117 billion USD and is expected to reach 225 billion USD by 2025. This is still clearly a sector which can see much growth and profit. Current practices however, including ramping investments in educational technologies have not led to an increase in enrolment at the entry level. The edtech market has seen investments of 700 - 800 million USD in 2021. And Indian educational technology startups have received investments of almost 4 billion USD for 2022. There is however something to be said about the potential for alternative or supplementary education which these startups have to offer via platforms such as Byjus, Khan academy, Udemy and Coursera some of which are actually offering degrees recognized by universities. 

The value of schooling is certainly not in the curriculum alone, as the socialisation which children experience offers them a taste of what society is and who they may be rubbing shoulders with in the world of tomorrow. A standardised set of competences however goes a long way in establishing the credibility of a board and in India this has seen the rise of autonomous school boards in the recent years who are affiliated with the institution providing the schooling as well as with the International Baccalaureate Program or the Cambridge International Examination for instance. 

The average salary of a teacher who works at a government school in India is 2.9 lakh rupees, which comes to a little over 24000 rupees a month. A report from 2018 showed that 131 million students were enrolled in government schools. Two years earlier a study by UNESCO showed that 47 million students drop out of school before class 10. Even adding the 119 million + students enrolled in privately run schools - this would mean an opting out of the primary education program by at least 5.3 % of students as per 2016. As per 2020 4.6% of the countries GDP amounting to 138 billion USD was invested in education. (study placed on hold to read Mark Neocleous’s work on policing and political economy)

To not get carried away by our example, we should also shed some light on what happened to currencies after they were no longer tied to fixed exchange rates vis-a-vis the dollar as was the case with the Breton Woods agreements which 44 nations were signatories to. Also we should keep in mind that there were many nations who did not peg their currencies vis-a-vis the dollar. Recently, on April this year partly due to sanctions from the EU and the US, Russia decided to bring back the gold standard in the valuation of its national currency - the rouble, pegging its price to gold at the rate of 5000 roubles to a gramme. Historically, this is the first time any country has moved back to the gold standard since the dissolution of the Breton Woods Agreement in 1971. 

What are alternative ways in which the value of a currency is pegged? And what do we even call money when its worth is no longer secured via a pegged relationship to a commodity such as gold? Fiat money is a term used to describe this phenomena. Since President Richard Nixon in 1971 decided to suspend the dollar’s convertibility to gold almost all countries across the world have been using fiat currencies. This is money without any intrinsic value, and which is not backed by the central bank to be converted into any other commodity. In other words it has value only because the people who use it agree that it is so. The word fiat itself comes from Latin where it means ‘let it be done.’ 

That said, courts often recognize fiat money to be legal tender - that is it must be accepted as payment for a debt if the case requires it to be so. 

What would this mean to the regular customer and the commodities or services they purchase? Well were there to be a supply side crunch and the cost of commodities were to rise the central bank of a country could increase the amount of money in circulation by printing and distributing more notes. This would have the effect of limiting the extent of inflation in question, and may even act as a stimulus to consumption which would help the economy produce the goods and services required. 

Conversely an increase in the quantity of money in circulation lessens the value of the money itself and this hurts the competitiveness of the country in the international market. For example were a car exporter be selling a vehicle abroad for 800,000 rupees inclusive of shipping the value of those rupees vis-a-vis the dollar for example would be less which means the exporter would get fewer dollars for rupees. This would be operational even if the exporter were to insist that the transaction be undertaken in rupees itself as the exchange rate of the rupee vis-a-vis the dollar would have weakened making the transaction itself cheaper for the buyer. 

You could say that this may help the exports of an economy in the international market, this would be so but at the cost of weakening the national currency. Which would mean that imports would be far more expensive. 

As mentioned earlier, the national press in India has taken note of the unprecedented fall in the rupee’s worth vis-a-vis the dollar and the finance minister’s response was to state that it was the dollar that was strengthening and not the rupee which was falling. What would these movements in prices actually mean for India’s exports and imports? As mentioned earlier India imports oil and electronics, but in terms of the valuation of the products transacted pearls, precious stones, metals and coins also feature. It's chief exports are refined petroleum, packaged medicaments, diamonds and rice - these being the articles as per 2020. As may be discerned even at a peripheral glance, apart from computer chips our import and export industry consists primarily of refining materials derived from mineral fuels such as petroleum which are purchased often from the Middle East and whose distilled products are sold to Singapore, UAE and the US. 

The long and short of it, at least as it pertains to the valuation of the rupee vis-a-vis the dollar or any other currency for that matter is that our balance of trade as of 2020 is at a deficit, with imports amounting to 372 billion USD and exports to 284 billion USD. Presently we still bask in the growth of what has been the boom of IT services such as troubleshooting, customer care and BPO call centres which have seen the most substantial industrial returns at least as a sector as far as an export service are concerned with these making up what amounts to 148 billion USD in our export offerings - these figures are from 2019 however and the picture may have changed in the last three years.