Weekend Rupee / Dollar / Sensex stock market Gold India update

The Indian rupee is on a run. But not too many people are cheering. In fact, the government is in a tight spot as IT software companies reel under the rising currency woes. Margins and market valuations of India’s flagship software biggies have been hit and the small and medium sectors are showing signs of wilting under pressure.

For the Congress-led United Progressive Alliance government, which seeks the people’s mandate again in less than two years, it’s time to look for ways to tame the runaway rupee. The Congress, which sprang a surprise with its aam aadmi plank during the last Parliamentary polls, can’t afford to let inflation rise even marginally as it may hurt the ruling party in every state poll in the run-up to the Lok Sabha elections 2009.

And meanwhile, a steep rise of the rupee vis-à-vis dollar in the last five months has further complicated the situation for top money managers of the North Block and the Central Bank. If they allow the rupee to appreciate further in sync with market dynamics — some analysts forecast a stronger rupee at 38 in two years’ time — it will hurt export industries which, in turn, will shrink new job avenues. No doubt, the government would not like to see a rise in unemployment during an election year.
Sensex might be courting it happily, but the rogue rupee is fast getting on the nerves of the economy. Unless the government and the central bank step in with the baton at the earliest, the implications will be far more than just financial, feel market experts.

Phani Shekar of Angel Broking said, “Rising rupee is a problem, but the market at the moment thinks this is not a problem. But, at the end of the day, we are an export-driven economy and we will take a hit.”

“Forget stocks, the most disturbing scenario is the multiplier effect. The same multiplier effect which people said a couple of years ago would catapult the Indian economy, can work the other way if the rupee further rises to say 37 against the dollar. While high margin IT services may absorb it to some extent, BPOs, which operate on lower margins of 10-12%, will be badly hit. The worst hit will be the low-margin textiles and gem and jewellery sectors, which simply have to shut shop,” said Shekar.

The large-scale job losses in these sectors would then spill over to other sectors, dampening sentiments of portfolio investors, he added.

Reflecting this sentiment in a report dated July 17, Credit Suisse analysts Nilesh Jasani and Arya Sen said, “The impact of rupee appreciation is no longer limited to financial implications. Concerns regarding large-scale job losses in more labour-intensive sectors, such as textiles, handicrafts and leather, are being expressed more stridently. The commerce ministry itself has talked of a potential 275,000 job losses in export-oriented sectors, particularly amongst the smaller players.”

The rupee on Friday ended at a fresh nine-year high of 40.3200/3250 against the US currency, stronger by three paise from the previous close on strong portfolio inflows and weakness in dollar overseas.

The Reserve Bank of India (RBI), which is believed to have been preventing the rupee's surge past 40.40 level, remained mute during the day.

In somewhat lacklustre trade at the Interbank Foreign Exchange (forex) market, the local currency was trapped in a small range of 40.31 and 40.35 after resuming better at 40.3350/3450 a dollar.

The rupee drew support from encouraging cues from other high-yielding Asian currencies, which were firm against the greenback as well as strong global investment inflows into the Indian equity.

The capital inflows jumped to more than USD 9.0 billion so far in the year, following a massive and consistent inflow in the last 14 days.

Oil refiners also stayed away from the market despite rising global crude prices, which was a shed lower from USD 76 per barrel, forex dealers said.

The central bank was conspicuous by its absence following Finance Minister P Chidambaram's statement that India will maintain a "fairly tight" monetary policy to curb inflation that may be stoked by high crude oil prices and consumer demand, they added.
Both precious metals today surged ahead with silver advancing by Rs 55 per kg and gold by Rs 90 per ten gm on higher advice, traders at the Bombay Bullion Association said.

Silver fineness .999 opened high at Rs 18,250 per kg on fresh buying support. Later, it slightly improved and closed at Rs 18,255 per kg with a gain of Rs 55 from its last close.

In London, silver remained higher at 13.35/13.37 per troy ounce, compared to its last close of 13.32/13.35 per troy ounce.

Similarly, spot standard gold (99.5) and pure gold (99.9) also opend high at Rs 8,950 and Rs 9,000 per ten gm respectively. Later they further rose and closed at Rs 8,955 and Rs 9,005 respectively, gaining Rs 90 from their last close.

In the London market, gold was quoted higher at 679/680 per troy ounce against 676/679 per troy ounce, which helped to boost domestic prices, traders pointed out.

Following are the spot silver and gold closing prices: Silver (per kg) .999 grade : Rs 18,255 (18,200) Gold (per 10 gm): Standard mint 99.5 purity : Rs 8,955 (8,865) Pure gold 99.9 purity : Rs 9,005 (8,915)
So it’s a double whammy for the Central government. If the Reserve Bank intervenes to stop the rupee from appreciating further, it may increase the profitability of export-oriented units and create more jobs, but that may, in turn, bring in an inflationary tendency to the market. Thus, the government is virtually standing between the devil and the deep sea. It’s difficult to choose between inflation or unemployment!

Economist and member, Economic Advisory Council (EAC) to Prime Minister Dr Satish C Jha argues that the exchange rate should always be market-driven. “I have always argued that we should not intervene much on ups and downs of exchange rates. Let market forces determine that.

Also, we can’t forget that rupee has remained undervalued for quite sometime. I feel it will get stronger further and will hover around 38 in the next two years. We have seen a strong inflow of foreign capital into the market. How can we expect rupee to depreciate,” he questions.

A large part of India Inc, however, is not at all comfortable with the way the rupee is going. Industry bodies have been arguing that the government should step in immediately for the sake of export units and SMEs.

Analysts say that the tech bigwigs with their better management skills will manage to offset the rupee blow better, but the export industries would be hit hard. Amit Mitra, secretary general of industry body Ficci, feels that the government needs to give much more than the recent Rs 1,400-cr package for exporters.

“Our exporters are competing with those from China where the government devalues the currency whenever it feels like. India, too, should come forward in helping this labour intensive industry,” he says.

The recent export package may give some relief to the exporters as drawback rates have been increased for many sectors such as textiles, stainless steel, leather and bicycle parts. The finance ministry also announced lower interest rates for exporters in textile, leather exports, handicraft, engineering products, sports goods, toys and all SME sectors.

But will the government achieve its ambitious export target of $160 billion, up from the last year’s level of $125 bn? Minister of state for textile E V K S Elangovan admits that the current package is just a temporary relief. “We need a permanent solution to this problem of rupee appreciation vis-a-vis performance in exports. We have been working closely with the ministries of commerce and finance to chalk out a permanent solution to this problem,” he says.

Senior economist from ABN Amro Bank Gaurav Kapur estimates that the overall export growth could slip by about 15% this year. “Clearly, a stronger rupee will have a negative impact on manufacturing exports this year. Within services, the IT sector is suffering because of its large dependence on exports, particularly those denominated in US dollar. TCS, however, has managed to minimise currency risk by following a proactive hedging policy. But SMEs have been the worst hit. A slowdown in the US economy in the first half is also likely to have a negative impact on Indian exports,” he says.

The rupee has been hinging around 40 per dollar in April-June 2007 and is having a negative impact on many sectors of the economy.

Textile exports: As a result direct employment gained from textile exports has been reduced by 57,618 jobs in 2006-07. The incremental employment in the allied industries has also suffered a loss of 65,820 jobs during the year.

The textile and clothing industry is the largest employment provider in the country after the agricultural sector. The total direct employment in the textile industry as of March 2006 was estimated to be 33.17 million while the indirect employment generated was much higher at 54.85 million. The Confederation of Indian Textile Industry (CITI) estimates show that the deceleration in textile export growth from 16.6 percent in 2005-06 to 9.2 percent in 2006-07 has pushed down the employment from textile export trade by around 1.22 lakh jobs.

Engineering Export: The Engineering Export Promotion Council (EEPC) has said that engineering exports accounts for one-fifth of the country's total exports at $26 billion and if the rupee goes below 40 per US dollar, the new export contracts won't be undertaken.

When rupee appreciation takes place for an extended period of time, Indian engineering exporters do find it tough to export to the competitive markets in the US and the EU, especially at a time when export credit cost and domestic prices of steel and other raw materials are also north bound.

In an extremely competitive scenario, when the Chinese companies are flooding the global marker with bulk exports, it is virtually impossible for the Indian exporters to pass on the increased cost of product to the foreign buyers. During April 2007, the country's export growth was lower by 23.06 percent in US dollar terms and 15.39 percent in rupee terms. Full impact is likely to be felt in may and June.

Exporter Start Hedging Receivables: Bothered of appreciation of the rupee of the rupee, exporters have once again begun hedging their receivables in a bid to cut losses. Since beginning of April this year, the rupee has appreciated by over 5 percent. There are fears that the rising capital inflows will drive the rupee-dollar exchange rate below Rs. 40. With exporters now resorting to hedging their receivables, the forward premia has dipped to 3 percent from about 5 percent during the beginning of this fiscal.

Community exporters and software companies are among those are resorting to hedging. Infosys and TCS have already increased their hedging limits.

However, foreign institutional investors have a reason to cheer about. Senior economist from Crisil Sunil Sinha explains how the appreciation of rupee is in favour of FIIs. “If an FII invests $1, it will mean he has invested Rs 40 in the market. If he earns a profit of, say, 100% in six months, he will have Rs 80 in the market. But if the rupee gets stronger in those six months , he will earn more than a dollar, besides his investment. But this is only one factor. With the economy promising a growth of around 8-8.5%, it makes sense to remain invested,” he says.

That’s a clear illustration. On the flip side, however, more FII inflows will make the rupee even stronger. Dr Rajiv Kumar, director, Indian Council for Research on International Economic Relations (Icrier), suggests that a model adopted earlier by Chile should be replicated in India too. “One way to tackle the present situation is to limit or slow down the FII inflow. FIIs should not be allowed to invest straightaway in the market. There could be a rule under which the FII money should compulsorily be locked with the RBI for three months with no interests on it,” he says.

Even industry lobbyists are pushing for another model to contain the surging rupee. They feel that the RBI in collaboration with the ministry of finance should permit the issuance of infrastructure bonds, thereby helping the dollar out of the reserves. This will allow mopping up of rupee and increase the reserves in rupee terms.

However, analysts are divided on whether the government should intervene in the exchange rate mechanism or should leave it purely to market dynamics. Dr Deepak Dasgupta, lead economist from the World Bank’s India chapter, strongly feels that everything can’t be left to the market dynamics. “Global experiences show that foreign exchange market is not necessarily a very efficient market. It’s volatile just like the stock market. Hence, some amount of government intervention is needed from time to time,” he argues.

Meanwhile, a stronger rupee means better business for certain sectors as well. Explains Vinnie Mehta, executive director of Manufacturers Association for Information Technology (MAIT): “For a import-intensive industry such as IT hardware, the rising rupee is actually a blessing. We are, however, not really seeing any big impact on prices of IT hardware items coming down because in many cases, the rising rupee is being offset by the rising yen.

Our industry is heavily dependent on imports from China and South East Asia. If the rupee continues to remain strong, prices of IT hardware could come down for the users since manufacturers will be able to negotiate large deals for imports at competitive prices.”

Mr Kapur from ABN Amro Bank points out how the companies are benefiting from lower servicing costs on their external commercial borrowings. “This is reflected in the first quarter results of Ranbaxy, for instance. But if you look at the companies which are able to gain out of this situation, they are mainly big in size. Hedging for small and medium sized companies is not only difficult but a costly affair,” he adds.

The gainers from a strong rupee still belong to the minority camp. However, they get support from market idealists. Says Mr Jha from PM’s EAC: “We can’t ignore how a strong rupee may help the government in reducing the petroleum imports bill, and also wheat imports. Yes, export industries are hit to an extent, but we can’t ignore the fact that unlike China, our economy is driven by domestic demands and not by exports.”

What happens in the forex markets in weeks and months to come is still not certain. But the government and India Inc will definitely be watching the currency dilemma very closely.

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