No more tinkering

To address the rupee's slide, government must actively smooth the path for foreign investment

The rupee has seen a sharp decline in June. There are various options for addressing this slide in the short, medium and long terms. Some of these, such as financial sector regulatory reform, are easier to operationalise than others.

The immediate solution is for the RBI to intervene. If the RBI intervenes in small doses, it would have little impact. So, the RBI could step in, in a big way. Some estimates suggest that the size of the foreign exchange market for the INR/ USD is about USD 70 billion per day. Let us say the RBI sells 10 per cent of that, or USD 7 billion a day, to have an impact on the market. It could do this for a few days, and try to prop up the rupee. If the rupee stabilises in the first few days, the RBI could stop. If, instead, it leads to a speculative attack, as is likely, the RBI could try for about 10 days and call a halt after having lost USD 70 billion. This must, of course, be sanctioned by the government, or the RBI could end up looking foolish. The government and the RBI do not appear inclined to take this route. The second option is to raise interest rates. This would attract NRI deposits and remittances, in addition to debt capital. The government and the RBI do not appear to be amenable to exploring this option either, especially in light of the growth slowdown. By all accounts, they might float a scheme for NRIs or raise some dollars through sovereign bonds, but they may not raise the policy rate for an economy-wide effect. The effect will, therefore, be limited.

The third option is to attract investment through more foreign investor-friendly policies. This would require a full clean-up of capital controls. The Financial Sector Legislative Reforms Commission has proposed a new framework to replace FEMA and other laws, to address this issue. FEMA is not clear on what the objectives of capital controls are. As a consequence, restrictions are imposed for the sake of restrictions, and not for any larger objective like, say, achieving higher growth or investment while addressing issues of national security or preventing terror financing. The government needs to take full responsibility of capital controls. It must give foreign investors a clean and workable regulatory framework.

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