The Hindu Business Line : Harness the forex flood

Had anyone suggested in 1991 that India would in just over 15 years accumulate foreign exchange reserves of more than $200 billion, that would have been dismissed as fantasy. Yet, in the week ended July 13, the country’s reserves swelled by $4.12 billion to $218 billion on the back of robust direct and portfolio investments. That is a measure of the confidence the world places on India’s economic outlook — far greater than that generated the previous week by the mega equity offerings by ICICI Bank and DLF, the Delhi-based realty firm. So strong were the foreign inflows that the Reserve Bank of India was prompted to intervene, after a couple of months of decisive inaction, to keep the rupee from strengthening further.

Intervention occasioned by cresting inflows — not by the need to weaken the rupee primarily — will prove decisive in redrawing the exchange rate tolerance levels in the coming months. The RBI’s reference rate did not weaken the rupee to levels that exporters yearn for; the exchange rate moved within the Rs 40 range. That rate will form the benchmark for some time, assuming the economy continues to enchant global investors and there is no reason why it will not. So the country will have to get used to a relatively strong rupee, or redefine its tolerance level of the rupee’s value. Had the RBI not intervened, the dollar might just have fallen below Rs 40. In effect, the exchange rate is now beginning to reflect the true market value of the economy and that is how it should be, considering the inflows. Needless to say, bloated stock values may drive portfolio managers to other emerging markets but the resilience of the Indian economy in its current phase of growth lies in its capacity to throw up mid-cap stocks with potential just when it appears the market is full of overvalued scrips.

As for direct foreign investments, India can open a gusher if it relaxes the regulatory framework for infrastructure, and removes all those annoying glitches that scare away the big players. With a little more spark, such as the one that got the Bhatinda oil refinery project going with the Mittals coming in, there is no reason why direct investments should not outpace the portfolio variety by a fair margin. But an expanding forex kitty necessitates a shift from prudent to innovative management. With reserves 2.6 times the sum of volatile investments and short-term debt, the RBI must use a considerable portion of the former more productively than it has so far.