Exchange Rate and BOP

SAINTGITS INSTITUTE OF
MANAGEMENT, KOTTAYAM

By
Lekshmi Vijayan
Jenny Joseph
 Exchange rate
• Also known as the foreign-exchange rate, forex
rate or FX rate
• The exchange rates between two currency specifies
how much one currency is worth in terms of the
other.
• It is the value of a foreign nation’s currency in
terms of the home nation’s currency.
Fluctuations in exchange rates
• A market based exchange rate will change
whenever the values of either of the two
component currencies change.
• A currency is more valuable whenever demand
for it is greater than the available supply and
vice versa.
• Demand increases due to either an increased
transaction demand for money, or an increased
speculative demand for money.
• The transaction demand for money is highly
correlated to the country's level of business
activity, gross domestic product (GDP), and
employment levels.
• The more people there are unemployed, the less
the public as a whole will spend on goods and
services.
• Central banks typically have little difficulty
adjusting the available money supply to
accommodate changes in the demand for
money due to business transactions.
•
•


• The speculative demand for money is much harder

for a central bank to accommodate but they try
to do this by adjusting interest rates.
•
• An investor may choose to buy a currency if the
return (that is the interest rate) is high enough.
•
• The higher a country's interest rates, the greater
the demand for that currency.


•
Factors affecting Exchange Rate
 Slowdown in GDP growth

 Balance of Payment

 Market movements

 Price Movements

 Liquidity


Exchange rate
 Balance Of Payment
• Difference between the money coming into the
country and money leaving the same country
• A country’s balance of payments accounts record
its international trading position and its
lending and borrowing
•
• Records transactions between countries
•


• BOP determined by
• Exports
• Imports
• Financial capital
• Financial transfers
•

• Indicators of country’s status of international

trade

 Balance of payment
Item April-June July-September October-

December
2007-08 2008-09 2007-08 2008-09 2007-08 2008-09

1. Exports 34,356 49,120 38,273 47,700 40,985 36,707

2. Imports 56,346 79,637 59,510 86,213 67,038 73,014

3. Trade -21,990 -30,517 -21,237 -38,513 -26,053 -36,307

Balance (1-2)
4. Invisibles, 15,310 21,521 16,940 25,684 21,522 21,663
net
5. Current -6,680 -8,996 -4,297 -12,829 -4,531 -14,644
Account
Balance (3+4)

6. Capital 17,880 11,231 33,533 8,095 31,269 -3,237

Account
Balance

BOP -11,200 -2,235 -29,236 4,734 -26,738 17,881

Impact of dollar fluctuations on the Indian economy

• Until the 70s and 80s India aimed at to be self-reliant by concentrating

more on imports and allowing very little exports to cover import
costs.
• However, this could not last long because the oil price rise in the 1970s
and 80s created a big gap in India’s balance of payment.
• Balance of payment (BOP) of any country is the balance resulting from
the flow of payments/receipts between an individual country and all
other countries as a result of import/exports happening between an
individual country, in our case India and rest of the world.
• This gap widened during Iraq’s attempt to take over Kuwait. Thereafter,
exports also contributed to FX reserve along with Foreign Direct
Investment into the Indian economy and reduced the BOP gap
•
 Indian rupee appreciation against dollar
impacted heavily to the following:


– Exporters
– Importers
– Foreign investors
–
a) Export
b)
vExports from India are of handicrafts, gems,
jewelry, textiles, ready-made garments,
industrial machinery, leather products,
chemicals and related products.
v
a)

• Rupee appreciates – exporters loss
• Rupee depreciates- exporters gain
•
B) Importers

• Imports to India are of petroleum products,

 capital, goods, chemicals, dyes, plastics
pharmaceuticals, iron and steel, uncut precious
stones, fertilizers, pulp paper etc.


• Rupee appreciates – importers gain

• Rupee depreciates- importers loss
•
•
 Imports
• With the same scenario as given for export, if we
analyze - an importer is paying Rs. 3935 now
instead of Rs. 4800 paid during yester years
for every $100.
• This gain on FX is likely to create savings in cost,
which could be passed on to consumers,
thereby contributing to control inflation
•
 Foreign investment
• With the recent liberalized norms on foreign
investment policy like – Foreign investment of
up to 51% equity limit in high priority
industries; foreigners & NRIs are allowed to
repatriate their profits and capital, made foreign
investment in India very attractive.


• It is this favorable atmosphere which made FX

reserve surplus in US dollar and helped rupee to
appreciate
•
• Foreign investment increases - Rupee appreciates
• Foreign investment decreases - Rupee depreciates
 Conclusion
• Appreciation and depreciation of rupee cannot
certainly be taken as beneficial to the Indian
economy in general.
• On one hand the rupee appreciation will affect
exporters, BPOs, etc., on the other, rupee
depreciation will affect importers.
• So now it depends on what the future has to
reveal for, how effectively the central bank
can balance the FX rates with little impact to
the relative areas of FX usage.
• Can the Dollar remain king or not, is no longer a
million dollar question, but a million Rupee
question!
•
Thank You