Weaker Rupee Beneficial Short-Term, But Stronger Rupee Crucial For Long-Term Trade Balance: RBI

(MENAFN- KNN India) New Delhi, Dec 26 (KNN) A report published by the Reserve bank of India (RBI) has highlighted the impact of currency fluctuations on India's trade balance. The report suggests that while a relatively weaker rupee may provide short-term benefits to India's trade balance, a stronger rupee is more advantageous in the long run.

The trade balance, defined as the difference between a country's exports and imports of goods and services, is a critical indicator of economic health.

The findings, which were published in RBI's November bulletin, include data on the Real Effective Exchange Rate (REER). The REER is an index that measures the value of the Indian rupee relative to a basket of other currencies.

According to the data, the REER indicated an overvaluation of the rupee in November, as other major currencies depreciated at a higher rate against the US dollar.

The 40-country trade-weighted REER index rose from 90.9 to 91.8 in one month, while the six-currency basket-comprising the US, China, Eurozone, Hong Kong, the UK, and Japan-rose from 104.4 to 105.3.

Following the election of Donald Trump as US president in early November, the US dollar strengthened against all major currencies, including the rupee.

However, the depreciation of the rupee was less pronounced compared to other currencies, which led to an appreciation of India's REER.

The report also attributed part of the REER's appreciation to rising productivity in India's tradable goods sector, suggesting that this may be a key factor in the currency's relative strength.

The RBI researchers emphasised that policymakers need to consider the asymmetrical and time-varying effects of REER fluctuations on the trade balance.

While a weaker rupee might initially boost exports, over the long term, an excessively depreciated currency could undermine the trade balance by increasing the cost of imports and potentially leading to inflationary pressures.

From a broader financial stability perspective, the REER is also an important metric. The International Monetary Fund (IMF) has previously noted the significance of monitoring REER fluctuations, as significant deviations in the index can sometimes signal the potential for financial instability or crises.

Historical data suggests that large swings in the REER index have preceded periods of financial turmoil in other economies, underscoring the importance of careful management of exchange rate movements.

In summary, while a weaker rupee may temporarily support India's trade balance, long-term stability and trade health are more likely to be secured with a stronger currency.

Policymakers are advised to monitor these developments closely, balancing short-term gains with long-term economic fundamentals.

(KNN Bureau)

MENAFN26122024000155011030ID1109032797