IN­DUS­TRY INSIGHTS The Ru­pee Falls: Will Ex­ports Rise?

As the In­dian ru­pee falls sharply against the US dol­lar, Samir Alam ex­plores its po­ten­tial sig­nif­i­cance for In­dia’s ap­parel ex­ports.

Apparel - - CONTENTS OCTOBER 2018 -

Ex­plor­ing the im­pact of the fall in the In­dian ru­pee against the US dol­lar on In­dia’s ap­parel ex­ports

This past year has pre­sented the global tex­tile and ap­parel in­dus­try with a slew of chal­lenges, from fluc­tu­at­ing de­mand to pend­ing fears of an all-out global trade war. How­ever, the most per­ti­nent eco­nomic phe­nom­e­non con­cern­ing the In­dian ap­parel and tex­tile busi­nesses is the fall­ing ru­pee and its po­ten­tial im­pact on the fu­ture. In the midst of this un­cer­tainty, the In­dian in­dus­try is look­ing at the sil­ver lin­ing and is op­ti­mistic to­wards the ex­port mar­ket, given the higher ex­change rate against the US dol­lar.

But is this per­spec­tive sound and sta­ble, or is it hid­ing a deep-rooted prob­lem with the In­dian econ­omy, as many have spec­u­lated? Let’s be­gin by first iden­ti­fy­ing what has led to this pre­cip­i­tous de­cline in the value of the ru­pee, as that lies at the crux of the broader ques­tion: will this fall boost In­dia’s ex­ports?

TURKEY AND THE TIP­PING POINT

The In­dian ru­pee hit a record low against the dol­lar this past month, slid­ing to 73.13 just days after cross­ing 70 for the first time. This marked the depths of a down­ward spi­ral, which has been go­ing on for nearly a year when the ru­pee fell to 63.67 in Jan­uary. How­ever, the over­all fall­ing trend was for more rea­sons than just the de­cline of Turkey. The three key fac­tors plagu­ing the ru­pee can be iden­ti­fied as the ris­ing price of crude oil, higher cap­i­tal in­flows, and the widen­ing trade deficit.

But the sud­den fall in July was ex­ac­er­bated by the on­go­ing fi­nan­cial cri­sis that is plagu­ing Turkey, and hurt­ing many de­vel­op­ing na­tions in the process. Coun­tries like South Africa, Ar­gentina, Mex­ico, Brazil and Rus­sia have all ex­pe­ri­enced a down­ward slide in their cur­rency value dur­ing the same pe­riod. The cur­rency de­cline was well un­der­way since Jan­uary, but it hit a tip­ping point in July 2018, when the Turk­ish lira dropped nearly 30 per cent in un­der a month.

While the two na­tions have no di­rect link that would im­pact In­dia’s cur­rency val­u­a­tions, the prob­lem was in in­vestor per­cep­tion. Turkey has ac­quired over US$466 bil­lion in debt, which is over 51 per cent of its GDP, while In­dia has over US$529 bil­lion in debt but with over US$2.484 tril­lion GDP, which is about 18.57 per cent. This is where the prob­lem of cap­i­tal in­flows is most preva­lent, as the ap­pear­ance of large na­tional debt may cre­ate con­cern and trep­i­da­tion among cer­tain emerg­ing mar­ket in­vestors, as they did in Turkey.

But de­spite the over­all slow­down in for­eign in­vest­ments in In­dia dur­ing 2018 (com­pared to 2017), the fun­da­men­tals re­main strong as In­dia still wields US$424 bil­lion in for­eign re­serves. But much like the pan­icked re­ac­tion to the Great Re­ces­sion of 2008, the in­ci­dent in Turkey trig­gered a wave of fear among global in­vestors. By fall­ing un­der the same de­mo­graphic as Turkey–as emerg­ing economies–In­dia was placed un­der an un­wanted spot­light. So, as in­vestors be­gan to dump their in­vest­ments in Turkey and free up their cap­i­tal, the ru­pee was also caught in the flurry. Although this im­pact on In­dia was short-lived, it went a long way to­wards push­ing the de­clin­ing ru­pee even fur­ther and driv­ing trade anx­i­eties to an all-time high.

AS IN­VESTORS BE­GAN TO DUMP THEIR IN­VEST­MENTS IN TURKEY AND FREE UP THEIR CAP­I­TAL, THE RU­PEE WAS ALSO CAUGHT IN THE FLURRY.

A DOU­BLE-EDGED SWORD

For many in the ex­port trade, these clar­i­fi­ca­tions only seek to em­bolden their op­ti­mism for the fu­ture. With an ex­port-driven ap­parel and tex­tile in­dus­try, In­dia is def­i­nitely primed for a pleas­antly sur­pris­ing boost in its ex­port earn­ings. How­ever, this is a veiled ben­e­fit that has no last­ing value in the bot­tom lines of com­pany ac­counts. This is mainly be­cause of how the cur­rent tex­tile and ap­parel value chain is es­tab­lished in the coun­try. The In­dian in­dus­try is deeply em­bed­ded in the global sup­ply chain, with nu­mer­ous im­ports sup­port­ing the ex­port busi­nesses.

While hav­ing an un­der­val­ued or de­pre­ci­ated cur­rency may seem to im­ply am­ple ex­port rev­enue, this is not the case. A weaker value does act as a di­rect sub­sidy for ex­ports and has helped na­tions like China who’ve ben­e­fit­ted from this for decades. But it does not work for a diver­si­fied multi-party trad­ing na­tion like In­dia, which is re­liant on re­gional and mul­ti­lat­eral agree­ments. This is the main rea­son why the RBI has time and again stayed away from de­pre­ci­at­ing the ru­pee through di­rect in­ter­ven­tion to boost ex­ports–it sim­ply doesn’t work.

The In­dian ap­parel and tex­tile in­dus­try is in­ter­twined with ma­jor re­gional and global part­ners, lead­ing to sig­nif­i­cant im­port de­pen­dence. And while In­dia con­tin­ues to im­port ap­parel-cen­tric ma­te­ri­als like wool, syn­thet­ics and tex­tile ma­chin­ery, the ben­e­fits of a de­pre­ci­ated cur­rency will be lost to the ris­ing pro­duc­tion costs for ex­port goods. More­over, the short­term fluc­tu­a­tions in cur­rency will take time to pay any div­i­dends for ap­parel ex­ports, since most con­tracts have locked-in rates on a quar­ter-on­quar­ter ba­sis. This means that these hedged prices pre­vent any sud­den de­pre­ci­a­tion from im­pact­ing sea­sonal trade. In prac­tice, it may take up to two years for these new low rates to find them­selves en­acted in ac­tual trade. The dom­i­nant ex­change rate will still be ne­go­ti­ated be­tween In­dian sup­pli­ers and their over­seas cus­tomers, lead­ing to a more level play­ing field and an un­likely wind­fall in prof­its.

THE SHORT-TERM FLUC­TU­A­TIONS IN CUR­RENCY WILL TAKE TIME TO PAY ANY DIV­I­DENDS FOR AP­PAREL EX­PORTS.

SHORT-LIVED GAINS

Even as many ex­port-ori­ented in­dus­tries con­sider the long-term po­ten­tials of this trend as a bonus to their earn­ings, this gain has been off­set. Fur­ther­more, this off­set af­fects not only ap­parel and tex­tile but also on a na­tional level. In­dia is rapidly ex­pand­ing its en­ergy foot­print and as a re­sult has be­come Asia’s third largest oil con­sumer. Nearly two-thirds of the na­tion’s oil re­quire­ments are ful­filled by im­ports, thus steadily lead­ing to higher prices. Ac­cord­ing to an­a­lysts, the high crude prices are a key fac­tor in de­pre­ci­at­ing the value of the ru­pee.

The macro-re­sult of this trend is sim­ple: In­dia is los­ing out on its balance of trade, with a wider cur­rent ac­count deficit, as im­ports ex­ceed ex­ports. The Re­serve Bank of In­dia has al­ready re­acted to this shift by rais­ing in­ter­est rates twice so far, as a stop-gap mea­sure to pro­tect the value of the ru­pee. But it is un­likely that this will have long-term ben­e­fits since it is sure to be un­done by in­fla­tion pres­sures. The key prob­lem is that as long as our im­port ex­pen­di­ture re­mains high with oil im­ports and global un­cer­tain­ties on the rise, the value of the ru­pee will plunge.

THE WAY FOR­WARD

And while this may present ex­porters with a golden win­dow to seize the dol­lar op­por­tu­nity, they need to be wary. Many of In­dia’s ap­parel and tex­tile in­dus­try com­peti­tors are fac­ing the same si­t­u­a­tion. These com­peti­tors also have the ben­e­fit of boost­ing their ex­port op­por­tu­ni­ties with their own weaker cur­ren­cies. As a re­sult, the pos­si­bil­ity of their un­der­cut­ting In­dia on price re­mains high. If this hap­pens, In­dia risks los­ing its com­pet­i­tive ad­van­tage in the global mar­ket­place and even­tu­ally spi­ralling into an ex­port de­cline as well.

The phe­nom­e­non of de­val­ued cur­rency is a new ex­pe­ri­ence for In­dia in the post-glob­al­i­sa­tion era and it re­quires care­ful nav­i­ga­tion. While ap­parel and tex­tile ex­porters are rea­son­able in lever­ag­ing the cur­rent cir­cum­stances, they should be wary of fu­ture changes. For many, the value chain tie-up with im­port ad­just­ments will lead to a nat­u­ral equilib­rium in prof­its for the long run. Those trades which have an un­hedged pay­ment struc­ture will im­me­di­ately ben­e­fit from the de­val­ued ru­pee, but the mar­ket will be quick to re­spond, as trad­ing part­ners will also scale back their pay­ments and seek new terms.

Un­der these con­di­tions, In­dian traders would be wise to forgo short-term gains and es­tab­lish long-term part­ner­ships that push In­dia’s com­pet­i­tive ad­van­tages ahead of their re­gional com­pe­ti­tion, in or­der to be in a bet­ter strate­gic po­si­tion once the cur­rency fluc­tu­a­tion nor­malises. This is the only way to pivot this set­back and gain last­ing ben­e­fits in the long run.

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