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Monday, September 17, 2007

Rising Rupee : Curse or a boon ?

Rising rupee has created shivers among the exporter's community. Jitendra V. Singh of Wharton school of management has a differnt view over the subject :

In the early to mid-1970s, the exchange rate was 7:50 rupees to the dollar, and the long-term decline continued for the next 25 to 30 years until the rupee reached 49 to the dollar in May 2002. For the first time in atleast three decades, the rupee has begun to appreciate. That does not surprise me. In the next 15 to 20 years, it is possible that the rupee may again reach 15 to the dollar, as it was during the 1980s.

We have been hearing many complaints from companies that are hurt by the rising rupee. Companies with business models whose revenues are generated in dollars -- and whose costs are denominated in rupees -- are worse off. In contrast, the rising rupee also helps companies that buy dollar-denominated resources, such as oil from global markets, or those that want to acquire foreign assets.

Many Indian companies have recently bought overseas firms. For example, the Tata Group's Taj Hotels, Resorts and Palaces bought the Boston Ritz-Carlton for $170 million, and there have been reports of other companies such as Tata Motors or Mahindra and Mahindra seeking to take over Ford's premium Jaguar and Land Rover brands. Companies that make such acquisitions will get a better price because of the stronger rupee. On a $1.5 billion transaction, a 10% drop in price due to a better exchange rate can mean savings of $150 million -- which is hardly a small amount.

The exchange rate depends in complex ways upon a host of factors: flows of foreign funds, interest rates, budget deficits, foreign reserves and trade balances. When the economy was liberalized in the early 1990s, no one would have imagined that India would one day have foreign exchange reserves of almost $230 billion, as it did earlier this month. With a multiple set of objectives, which include containing inflation and favoring foreign portfolio and direct investment, the Reserve Bank of India can try to stabilize the currency if there are more buyers than sellers of the rupee, but it may not be able to intervene beyond a point.

To the extent that Indian companies compete primarily on cost arbitrage, the rising rupee will work against them. One key question to ask is how to develop other sources of competitive advantage, such as building high-level capabilities which cannot easily be replicated by competitors, or how to change the mix of activities carried out in India versus other countries. Notably, Indian IT firms are trying to address rising wage costs by moving production within India to lower cost regions -- Eastern India (Kolkata, Bhubaneshwar) and to Tier II and Tier III towns. However, this will only offset a rising rupee to a limited extent, since the costs will still be in rupees.

If Indian firms were to follow this approach, there would be less reason to use the RBI to intervene to force the rupee down against the dollar. RBI cannot keep the rupee weak indefinitely; the rupee cannot stay down if the Indian economy is strong and the fundamentals keep pushing it up. Instead, Indian companies should learn to use the strength of the rupee to their advantage by adapting their business models and geographical mix in innovative ways.

1 comment:

deepanjali said...

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