The Rupee’s Wake-Up Call

PRINCETON – The Indian rupee has weakened rapidly in recent months, with the exchange rate against the US dollar dropping by 11%, to around 60 rupees, since early May. As a symbol of India’s economic strength, the rupee’s fall has provoked more than the usual hand-wringing and angst at home and abroad.

There is indeed reason to be worried, but not because the rupee’s value has declined. In fact, the slide has been long in coming, and recent market uncertainty has merely been a wake-up call.

The real reason to worry is that India has lost international competitiveness and has been buying time by borrowing from fickle lenders. Growth momentum has fizzled and, with inflation persistently high, Indian producers are struggling to compete in world markets. The current-account deficit is increasing relentlessly, owing to a widening trade deficit (now at 13% of GDP), raising the danger of a balance-of-payments crisis.

Indian GDP grew at heady rates of 8-10% per year between 2004 and 2007, a period that seemed to herald a decisive break from the anemic “Hindu rate of growth.” Reforms had unleashed new entrepreneurial energies and the prospect of a brighter future lifted people’s aspirations.