Politics and Economics of Rupee Depreciation

There has been a lot of politics behind the recent rupee depreciation, although not surprisingly! As expected, the opposition targets the party in power, trying to defend their superior performance under their purview. Likewise, the ruling party has been trying to defend its own performance. Though the economic policies don't trickle down quickly (sometimes never) to the ground levels in India but interestingly, such political arguments & targeting trickle very rapidly to individual conversations. So, let's try to decouple the politics and witness the actual economics in play.

Firstly, it is important to understand that in this globalized world, performances must be judged on a relative basis. Owing to deep macroeconomic integration amongst economies, the ripples in one of them have repercussions on the other, with the magnitude depending on the size of the source economy. Therefore, to evaluate the performance of the rupee, we must first analyze the performance of other currencies vis-a-vis the dollar.

In order to achieve this, rather than evaluating individual currencies, an appropriate metric that could be used is the "dollar index". Selecting this index saves us some time and complexity involved in analyzing individual currencies. This index proxies for all the important currencies of interest and, hence, is an appropriate benchmark for assessing the dollar's performance. Basically, the dollar index is the measure of the US dollar against the basket of foreign currencies. The currencies, here, include the Japanese Yen, Euro, Canadian dollar, British pound, Swedish Krona, the Swiss franc. 

The chart below (from tradingeconomics.com United States Dollar - 2022 Data - 1971-2021 Historical - 2023 Forecast - Quote (tradingeconomics.com)), depicts the USDINR (primary axis) and the dollar index (secondary axis). In order to judge the performance under UPA vs NDA, the time frame (x-axis) has been chosen so as to enable us to measure the relative performance, i.e, 2004-2014 and 2014-2022. Qualitatively, the chart shows that the dollar index strengthened under the former's regime (2004-2014), however, the rupee depreciated. This implies that while the other major currencies in the world were appreciating or the dollar was weakening, the rupee was severely underperforming (relatively) and had depreciated. Under the latter regime, while the rupee continued to slide but so did the dollar index.

Let's delve dive into numbers. I extracted the values of USDINR and dollar index and calculated the % change in them for the above-mentioned timelines. Calculations reveal that, during 2004-2014, while the rupee depreciated by around 31%, the dollar index appreciated by almost 7%. Hence, there was a significantly poor performance, since that's how politics have been marking it, of the rupee during the UPA regime. From 2014-2022, the rupee slid more than what it did under the UPA, i.e, by 37%, however, the dollar index depreciated by 38%. Therefore, the rupee depreciation under the NDA regime is not significantly detrimental but merely in line with the international macroeconomics. 

 Furthermore, if we only focus on the currency's performance during the recent period i.e, Jan-Oct 22', the rupee actually has outperformed its peers. During this period, owing to the hawkish Fed, the dollar index declined by around 17% while the rupee depreciated by only 8%. Henceforth, the judgement is quite clear now.

Note here, that although the dollar index is an appropriate metric for evaluating the currency, but another important benchmark for the relative performance of the Indian rupee would be the emerging market currencies. As the dollar index only has developed countries, while emerging markets like India operate on slightly separate economies of their own, relative performance in this basket must be further used in complement. By utilizing this, the calculations again reveal the outperformance of rupee for the recent times.