16

Opinion-Volume 1, No. 1, December 2011

Understanding the Impact of Exchange Rate

Fluctuation on the Competitiveness of Business
Abstract

Prof. Chanan Pal Chawla*

With the increasing level of globalization of economies of all the countries, the markets for
all the goods and services have become hyper competitive. The relationship between the
values of local currencies in terms of foreign currencies and export competitiveness of any
country is very complex. In the short run, devaluation of local currency may have the positive
effect on exports but also makes the imports costly. This relationship will become more
complex if there is heavy dependence of imported resources in the exported products. In the
long run, though it is the brand and value addition which will have more profound effect on
export competitiveness rather than cost based strategies which are easier to copy by other
countries.As the economies of the countries develop more depth and width, thereby reducing
the export component of primary products and increasing the exports of engineering goods,
chemicals and services etc, the competitiveness based on currency depreciation will have
lesser effect, but changes in the value of local currency still have profound effect in the short
run. One of the problems being faced by some European Union countries is the loss of this
leveraging of currency devaluation with the emergence of single currency for all European
countries. If China revalues its currency to reduce its current account surplus by reducing its
exports then Chinese organizations may buy western companies because it will become
cheaper to acquire them. So it becomes two sided sword.
Keywords: Hyper, Devaluation, Current Account, Exchange rate

Introduction
If we look at the best brands in any country almost all
the brands will be global brands. With the emerging
business environment of reducing tariff barriers, reducing
transport costs, increased role of information technology
in leveraging the cost component of doing business and
treatment of globe as a common reservoir of resource,
the emergence of global brands will become more and

more common in future. At the same time there are

hardly any local markets left. Every local market has
become a global market for somebody else from across
the geographical boundary of the country. Global
markets are becoming more and more competitive than
ever before. This global competition has decreased the
average life span of organisations to almost 50 years. In
fact this competition is reducing the life cycle of products,
technology and even knowledge.

*Dean, Institute of Innovation in Technology and Management (Affiliated to GGSIP University) New Delhi - 110 058

Understanding the Impact of Exchange Rate Cluctuation on the Competitiveness of Business

The basic purpose of any business is to fulfill some

felt, concealed or perceived needs of the society. This
fulfillment of the need will have the monetary value in
the mind of the customer. He is ready to pay the price
equal to or less than this perceived monetary value.The
challenges of any business is to create goods/ services
to satisfy these needs at a cost which is less than the
price that the customer is ready to pay for this value.
This difference between the value and cost is profit.
Every business has to aspire to either increase the value
at a particular price or reduce the cost incurred in
creating this value. With increasing importance of
competitiveness in the global markets, the margins of
profit are coming down. In such a scenario, the
importance of exchange rate stability assumes greater
significance.
Almost all the countries are following the system of
managed float exchange rate, to some degree, now a
days. Because of huge imbalances in the current account
of many countries like China, Japan, Germany, Saudi
Arabia having positive current account to U.S.A. having
negative current account, the stability of exchange rates
has come under pressure. As even the local markets
have become international markets because of

17

globalization, it is obvious that the international value of

local currency will have a profound effect on the
competitiveness of the products/ services.
If a product can be sold profitably for one dollar in
the international market and rupees earned by this sale
is RS. 50.00 (Assuming the present rate of exchange is
1$= 50 Rupees), then if the exchange rate becomes
1$= 100 Rupees, then the same product can be sold at
half the dollar, thereby increasing its global
competitiveness. But at macro level, it is easier said than
done. Exchange rate changes will have the reverse effect
on imports than on exports. In a country like India,
where there is heavy dependence on imported energy
resource, the currency devaluation may cause energy
prices to go high thereby causing inflation. This is turn
will cause factor cost to go higher in making of the export
products. This will again reduce its competitiveness in
the international market. Also this relationship between
currency devaluation and export may lead to reduced
local consumption, investment and economic growth,
thereby cancelling the effect of increased exports, if it is
increased because of only currency depreciation. In fact
there are many factors which affect the competitiveness
of exports of any

Figure 1

*Real effective exchange rate is the weighted average of a countrys currency relative to a basket of other major
currencies adjusted for effects of inflation.

18

Opinion-Volume 1, No. 1, December 2011

But only cost based strategies are not sustainable in

the long run. Such strategies are susceptible to be copied
easily. If the strategies for competition are product
differentiation or innovation then exchange rate variation
may not affect the export potential. To large extent some
variations may be offset by taking hedging options as
well.
But many economists still think that China has been
able to have large current account surplus based on the
depressed value of its currency Yuan in comparison to
U.S. Dollar. In theory, suppose China allows Yuan to
appreciate, then it may become cheaper for Chinese
organization to acquire U.S. companies. So it becomes
two sided sword.
Table 1
Year

Exports
(Annual
Percentage
Change U.S.

Imports
(Annual
Percentage
Change U.S.

Exchange
Rate

Real
Effective
Exchange
Rate

2001-02

-1.6

1.7

46.73

48.81

2002-03

20.3

19.4

44.74

47.56

2003-04

21.1

27.3

39.71

43.52

2004-05

30.8

42.7

38.52

43.72

2005-06

23.4

33.8

38.91

44.63

2006-07

22.6

24.5

36.81

43.57

2007-08

29.6

35.5

33.11

39.96

2008-09

13.6

20.7

40.58

50.97

2009-10

-3.5

-5.0

34.57

45.15

2010-11

29.5

19.0

44.86

Source: Business Standard New Delhi Monday 23

May 2011 and Economic Survey of India 2010-11.
P161.
Figure 2

In the case of India, if we analyze the Table 1 and

Figure 2, we see that there is no significant correlation
between Real Effective Exchange Rate and percentage
change in annual exports. Similar is the case in respect
of import also. For example in the year 2006-07 Real
Effective Exchange Rate (REER) was 43.57 to one US
Dollar and exports increased by 22.6 percent and
imports by 24.5 percent. Next year in 2007-08 though
Rupee appreciated to 39.96 to one US Dollar, exports
increased from 22.6 percent to 29.6 percent. Similarly
in the year 2008-09 when Rupee depreciated to 50.97
to one US Dollar, exports still decreased by 13.6
percent. This happened because of financial crisis of
the world and exchange rate variations could hardly
offset this effect on the export from India.
This trend shows that Indian basket of exports of
goods and services are well diversified and have moved
up on the value chain. Earlier when our exports
consisted mainly of primary goods our competitiveness
was based on cost only with very little part being played
by product differentiation. Now our exports competitive
advantage is not necessarily tied to cost only. The
changing nature of Indias exports basket is shown
below.
Table 2
Product Category

Percentage
Share2000-2001

2009-10
(April to
September)

Primary Product

16.0

13.4

Textiles

23.6

11.3

Gems & Jewellary

16.6

17.0

Engineering goods

15.7

19.5

Chemical & related Products

10.4

12.7

Leather & Leather goods

4.4

2.0

Handicrafts

2.8

0.5

Petroleum & its products

4.3

13.3

Others

Source: Economic Survey 2010-11. Page 167.

As the economy of any country gets developed
and diversified, it is the brand of goods/ services along
with country brand which will create long run advantage
over competitors. Cost advantage can be easily copied
and does not give long term competitive advantage.

Impact of Business Process Re-Engineering in Commercial Banks on Customers......

Compared to 2000-01, the share of engineering goods

has increased while that of textiles and readymade
garments has decreased. Leather and leather products
have lost shares while chemicals, related products and
petroleum products had handsome gains. Similarly,
African economy is also based on commodities like

19

Nigeria exports crude oil instead of refined petroleum

products, Zambia exports copper instead of copper
wire and S.A. exports diamonds instead of diamond
jewelery. Hence exchange rate has profound effect on
their global competitiveness for their exports.

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