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Economy Sep 10, 2013

Rupee at 64: Freefall helps but India didn’t make most of it

By Firstbiz Editors

The dust surrounding the rupee's freefall against the dollar has settled, and the emerging picture should make Finance Minister P Chidambaram smile with glee.

The rupee has pulled back from the record lows of 68.8 hit last month and is today hovering above 64, resulting in a rally in all the financial markets.

The Sensex is up about 500 points now and the Nifty 150 points. The decline in global crude oil prices is adding to the sentiment boost.

Moreover, reality that not everything has fallen apart and fundamentals of the economy is not in as bad a shape is setting in slowly.

Reuters

Reuters

For example, consider private equity firms' reaction to the rupee's decline. The record fall of the currency has not prompted these firms to flee India; they are staying put instead, reinforcing their belief in the economic fundamentals of the country.

According to a report in the Economic Times today, these companies, which are stuck with their investments made when the rupee was stronger against the dollar, are spotting a bargain hunting opportunity in India.

PE firms usually invest with a 5-7 year horizon and with the rupee falling sharply, these companies have witnessed value of their earlier investments crashing. Media reports suggest the decline could be anything above 50 percent.

The value erosion has prompted many PE firms to rethink their exit plans, an earlier report in the Mint had said.

However, according to today's ET report, these companies, instead of fretting and fuming over the loss of investment value, have decided to make the most of the situation. They are eyeing stakes in companies that are in distress due to demand slowdown and hope to make a killing once the rupee bounces back.

Many of these funds are revisiting the companies, in which they had made investments during 2005-08, the report said. That was the period when PE firms had made the maximum investments in Indian companies.

As per the report, some of the deals in the offing are Warburg Pincus' Rs 350 crore investment in ethnic wear brand Biba; General Atlantic Partners' Rs 200 crore in AND; and Motilal Oswal Private Equity's plans to sell its stake in packaged food company Cremica to foreign funds. The ET report also says Barista is looking for an investor and NM Rothschild has been mandated for the task.

In a recent interview to ET, William E Mcglashan, Jr, founder and managing partner of TPG Growth, had said that despite the storm clouds, this is the best time for a PE fund to be here and build great companies.

One has to read this in the context of the reality check that is setting in after the rupee's pull back from the record lows.

A number of experts now believe that the rupee was more sinned against than sinning.

Neelkanth Mishra of Credit Suisse, in an article in the Economic Times today, attributes the freefall to the fear factor.

"A currency will likely depreciate merely because most people agree it should, potentially triggering a vicious downward spiral. Unlike a physical commodity, a currency only has value because everyone believes it does," he says.

He doesn't see any link between the rupee's decline and "unsustainable Current Account Deficit (CAD)" or "high inflation differentials" or "falling growth differentials".

He equates the fall to a run on a bank. Once people start withdrawing deposits from a bank, it will continue because of the fear that creates in others. Nobody will actually look whether the bank is fundamentally strong or not.

This seems to be a viable explanation for the recent surreal happenings in the Indian forex market. The rupee started hitting new record lows almost on a daily basis. Bleak outlook about the economy added to the pessimism.

This is not to say that there is no problem with India. There are big issues. Policy paralysis, corruption and inconsistency in policies are only a few.

What gave rise to the big confusion in the markets recently is the confusing signals that emanated from the RBI and the finance ministry, with both trying to go by the books to rein in the falling currency.

That seems to have settled down now with the central bank resorting to more practical solutions like currency swap.

The government is also likely to follow up with more reform steps.

Many experts were of the opinion that the rupee's crash will result help focus minds. That is what is exactly happening now.

But the government has miserably failed in taking full advantage of a declining currency. When a country's currency declines, its exporters get a boost. This is because their forex earnings rise. The government should also put in place policies to boost the export competitiveness of domestic companies to help them.

As an editorial in the Business Standard today points out infrastructure bottlenecks are hampering companies in the export-oriented sectors such as textile and auto components from cashing in on the exchange rate boost.

This is where the United Progressive Alliance failed. During its nine years of rule, it did not do anything worth while to address the infrastructure bottlenecks. This is now coming back to bite it.

In short, the rupee depreciation is turning out to be a wasted opportunity for the country.

by Firstbiz Editors

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