The article talks about the reasons why rupee has been depreciating in value, the impact of falling value of rupee on inflation and other economic factors and ways in which the current slide can be attested.
Since the falling value of rupee, and rising oil prices have been dominating the news headlines for some time now, getting into the depth of reasons behind the same would be useful for mains.
NEW DELHI: Cattle, cocoa, salt, cloth, tobacco & even cigarettes have served as medium of exchange for goods and services. When the currency market is so much in turmoil, it’s a good opportunity to look back and ask what money really does?
In the simplest of terms, money is a store of value used to purchase goods and services and which can be saved and used later.
Modern-day monetary systems are based on fiat money. The Reserve Bank of India intervenes in the currency market to support the rupee as a weak domestic unit can increase a country’s import bill.
Cheques, demand drafts and banker’s drafts are called commercial bank money. The value of rupee against the dollar or for that matter any other currency depends on the market forces of demand and supply. In contrast, a weak rupee is considered good for exports, which is why exports-dependant nations love to keep the currency low.
RBI can tweak the repo rate (the rate at which RBI lends to banks) and the liquidity ratio (the portion of money banks are required to invest in government bonds) to control rupee.
The aim of the Reserve Bank is to ensure that a weak rupee doesn’t increase the already bloated import bill. The repo rate is an instrument used by the Reserve Bank of India to control inflation.
On the other hand, higher interest rates stem money circulation in the economy, leaving more money in the hands of RBI to manage the currency demand-supply situation.
Also, the currency value drops, it tends to drive up inflation, as imported goods become costlier.