Reasons for Fall in Indian Rupee

In the last few days we are daily listening news of falling rupee against dollar. For aspirants preparing for competitive exams it’s very important to understand about reasons of it as many questions are likely to be asked on it. It has also become a favorite topic of discussion in Group Discussions.

This has also become a very likely question in interviews and there are questions on falling rupee in almost every interview related to banking & finance job. On popular demand in this post we have tried to explain some of the likely reasons for fall in the rupee. We have tried to keep it very simple for better understanding of our visitors.

  • One important reason behind the fall of the rupee is an increased demand for dollars due to a spurt in crude oil prices and the flight of foreign funds from the Indian market. In simple words since demand of dollars has increased hence we now have to pay more rupees to purchase a dollar which has resulted in fall of rupee.
  • On the other hand demand for rupees has dipped because capital inflows are down.
  • Foreign institutional investors are believed to have sold Indian equities worth more than $500 million in just a few trading sessions. The rupee has been under tremendous pressure as foreign investors are getting out of the Indian markets due to the current slowdown in the nation’s economy and rising global uncertainties.

Explanation on why FII are pulling out: Due to falling Rupee rate against dollar, FII’s pulling out their investments from Indian market. Why so? It can be understood with the help of an example, say, an investor invests $500 in Indian market. If market grows by 10%, his valuation becomes $550. But, talking in rupee terms, he invests $500 (25000 for 50per dollar).Now with 10% increase, it becomes 25000+2500 =27500.But, with falling rate of rupee, now rate becomes, say 55 per dollar.

Now, when he wants his money back in dollars, he would get 27500/55=$500. That means no profits for foreign investor. That’s why, FII (Foreign institutional investors) are withdrawing their money from Indian markets and investing in more attractive destinations likeChina. This has lead to more decline in dollars in Indian economy.

  • India’s imports are increasing and exports are decreasing due to large population. That simply means that much more dollars are being spent, as compared to their earnings. This is also a big factor for fall in the rupee.
  • Dollar inflows into the Indian economy are falling because of global troubles such as Euro zone crisis (Greece with a debt more than its economy, making dollar strong) and high valuation of Indian companies.
  • Reasons like the global crisis are common to all currencies and it affects the rupee as well. Investors are wary about the comparatively riskier emerging market currencies. In addition to this areIndia’s internal problems of high inflation rates coupled with high interest rates.

So what is the way out? The country’s central bank, Reserve Bank ofIndia, can step into the foreign exchange markets and boost the rupee. But the Deputy Governor of RBI has clearly stated that the bank has no such intentions. It will intervene only in the event of excessive volatility. And with the RBI clearly stating that it will not intervene, it looks like rupee will continue its free fall for a while.

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