Has the rupee been kept weak artificially?

The rupee is highly undervalued against the dollar, latest International Monetary Fund (IMF) data suggest.

Just take the gross domestic product, or GDP, per capita of all countries and juxtapose them on the per-capita purchasing power parity (PPP) numbers. Then take the number of times the per-capita PPP is greater than the per-capita GDP.
What do you have?

India sits very close to the bottom of the heap. With a PPP to GDP multiple of 2.43, it is dwarfed only by countries like Timor-Leste, The Gambia, Kiribati, Ethiopia, Uganda, Tanzania, Nicaragua, Bhutan and Bangladesh.

But then, none of these is an emerging economy, whereas India is part of the BRICS grouping, considered the economic powerhouses of tomorrow.

India fares poorly against other BRICS countries as well — Brazil has a multiple of 0.92, Russia 1.26, South Africa 1.32, China 1.62 and South Africa 1.32.

What’s more, almost all the countries that surround India sport better numbers, except Bhutan.

The undervaluation of the rupee is implied even in the latest Big Mac Index, published by The Economist in January this year. “Big Mac index is based on the theory of purchasing-power parity: that, in the long run, exchange rates should adjust to equal the price of a basket of goods and services in different countries. Our basket consists of one McDonald’s Big Mac, and we’ve compared it with the average price in America, $4.20. According to our burgernomics, the Swiss franc is 62% overvalued: the exchange rate that would equalise the price of a Swiss Big Mac with an American one is 1.55 francs to the dollar; the actual exchange rate is only 0.96. The cheapest burger is found in India, where it costs just $1.62. Big Macs aren’t sold in India, so we’ve taken the price of a Maharaja Mac, made with chicken instead of beef.”
But, why is the PPP-GDP multiple so high for India?

There could be several reasons.

First, the cost of food and other items has been kept artificially low in India. This, however, would imply that over a period, as the economy liberalises further, you could see the prices of these goods going up as much as 150-200%. In other words, India could witness hyperinflation. But then, politicians in democratic countries are mortally scared of runaway inflation, as it could vote them out of power. So we could rule this option out, except if misgovernance and greed overtake common sense.

The second reason could be that the rupee’s value against the basket of currencies that the Reserve Bank of India benchmarks the national currency against has been kept weak. This ostensibly helps exporters, because the claim is that a weaker currency makes goods and services from that country that much more competitive in global markets. But exporters laugh such a theory away. They point out that global purchasers of Indian goods are quite savvy and they renegotiate the cost of goods and services provided by India to compensate for the change in foreign exchange values each time the rupee weakens. The only beneficiaries (sometimes losers) are those who have long-term contracts without an exchange adjustment mechanism in place.

A third reason could be that powerful people — and that includes tainted politicians, bureaucrats and businessmen — love to keep the rupee weak, especially when the kickbacks are made in dollars (or equivalent) overseas. At such times, a weak domestic currency means many more rupees for such people. A weaker rupee would benefit such people the most.

In fact, such an explanation does fit in quite well with the sudden weakening of the Indian rupee just before national elections, as highlighted in this paper On February 27.

Meanwhile, economists — including Ajit Ranade, chief economist at Aditya Birla Group, Madan Sabnavis, chief economist, CARE, and D K Joshi, chief economist, Crisil — believe the rupee will strengthen in the coming years, as foreign exchange investments pour into India.