Rupee Slides Amid Global Strain

Context

The recent weakening of the rupee against the major currencies such as the dollar, euro and the yen is an indication of volatility in the world and unexplored underlying structural issues.

About Rupees Depreciation

• It is the fall of the Indian rupee against foreign currencies, especially the US dollar. 
• When the rupee depreciates it implies that a single unit of foreign currency will be purchased using more rupees.

Major Drivers of Rupee Depreciation

• Trade Deficit: In case imports are higher than exports, foreign currency demand will increase, and this will exert downward pressure on the rupee.
• Capital Outflows: Outflow of capital by foreign investors in Indian markets leads to a lower supply of foreign currency, which undermines the rupee.
• Global Dollar Strength: The emerging market currencies such as rupee may be devalued by high US interest rates, which may also cause high dollar in the global market.
• Inflation Differentials: Increased inflation rates in India than the trading partners would reduce the purchasing power of rupee over time.
• Geopolitical and Economic Uncertainty: Capricious events around the globe or problems within the country may diminish the confidence of the investors, and the currency will be devalued.

Rationale behind current Depreciation

• Nominal Depreciation: Rupee has lost value against the majority of the leading currencies such as Chinese yuan (11.66 to 12.63). This broad based depreciation is seen with the NEER falling below 85.
• Reduced Domestic Inflation: CPI inflation in India (October 2025) was 0.25 which is much lower than in major economies such as the US, Japan, UK, Indonesia, and Brazil (3.0, 2.9 and 4.7) respectively.
  • • The low inflation and nominal depreciation rate have resulted in reduced REER, which suggests that the rupee will be undervalued and Indian exports can become price competitive.
• Decline in NEER & REER:
  • • NEER: Falling down to 84.58 (Oct 2025) since 90.75 (Jan 2025) – 6.8% in only nine months.
    • REER: Crashes back to 97.47 (Oct 2025) after a high of 108.06 (Nov 2024) in value, or 9.8% of the 108.06 decline, and the rupee is no longer overvalued but undervalued.

About NEER and REER

• Instead of bilateral exchange rates, economists consider two indices including Nominal Effective Exchange Rate (NEER) and Real Effective Exchange Rate (REER) in order to evaluate the real competitiveness of rupee.
• NEER: The average value of the exchange rate of a 40-currency basket of the rupee against the base year (2015-16).
• REER: NEER factored in inflationary differentials between India and its trade partners.
• A decline in NEER or REER implies that the rupee is weaker whereas an appreciation implies an appreciation.

Consequences of a Depreciated Rupee

• Inflationary Pressures: Imported commodities such as electronics, fuel and the other basic commodities are becoming expensive, which impacts on the household budgets.
  • • The fact that India is importing most of its oil requirement (above 80 percent) increases the costs of fuel, which consequently causes a domino effect on the cost of transportation, food, and manufacturing, thus fueling the inflation.
• Corporate Profitability: The depreciation of the rupee will wipe the profits of the corporate sector of India (India Inc) especially to the firms whose products and services are highly imported or with foreign currency liabilities.
• Trade Balance and Export Competitiveness: Although a weak rupee can help improve the competitiveness of exports by making Indian products cheaper in the global market, the effect is usually counterbalanced by the weakened world demand or the shaken chain of supply.
  • • Furthermore, India has a structural trade deficit, which is caused by the imports’ high value i.e. oil, electronics, etc. hence the beneficial effect of currency depreciation is constrained.
• Capital Flows and Investor Sentiment: Volatility in the currency may scare away foreign investors particularly in the stock and debt market.
  • • The decline of rupee has been caused by capital outflows caused by global risk aversion and increased US interest rates.

IMF Reclassification and Exchange Rate Policy by RBI

• In its November 26, 2025 report, IMF reclassified the exchange rate regime of India as a crawl-like arrangement; it previously had changed the exchange rate regime to a stabilised arrangement in November 2023 (after changing to a floating one in November 2023).
• A crawling regime permits a slow change in the value of currency within a 2 percent margin around some prescribed trend, which gives flexibility but does not permit sudden changes.
• Current Position of RBI: RBI has taken a more relaxed position in that it only interferes to ease excessive volatility. It is driven by:
  • • Cutting down on inflation, no longer the necessity of a strong rupee.
    • The necessity to maintain export competitiveness, especially in the context of the tensions in global trade and supply chains transformation.
    • RBI has also intervened in the forex market in order to stabilize the rupee. It may impact:
• Foreign Exchange Reserves: Constant intervention has resulted in depletion of the forex reserves resulting in a lack of capacity on the part of the RBI to defend rupee forever.
• Risks of Inflation: When the rupee is weak, the imports will be expensive, which could fuel inflation, and the monetary policy position of the RBI will be difficult.

What Lies Ahead?

• This could be followed by a further fall of the rupee REER which would remain undervalued in case the trend of gradual depreciation of nominal currency and low inflation persists.
• This would favour exporters but will increase the cost of imports in the long time in case the forces of global inflation re-emerges.
• The existing underestimation can provide a short-term advantage to the trade in case of inflation being controlled and the competitiveness of the country with the external world becoming better.
• Nonetheless, to maintain stability, there will be a need to carefully balance currency flexibility, inflation management and the management of capital flows in the coming months.

Source: The Hindu

Mains PYQ

(Q) How would the recent phenomena of protectionism and currency manipulations in world trade affect macroeconomic stability of India? (2018)

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