INTERNATIONAL FINANCE ASSIGNMENT

SUBMITED BY: ADITYA JAIN MBA 2C

HISTORY OF FOREIGN EXCHANGE MARKET IN INDIA. Foreign Exchange Market in India operates under the Central Government of India and executes wide powers to control transactions in foreign exchange. The Foreign Exchange Management Act !""" or FEMA regulates the whole Foreign Exchange Market in India. #efore the introduction of this act the foreign exchange market in India was regulated $% the &eserve #ank of India through the Exchange Control 'epartment $% the Foreign Exchange &egulation Act or FE&A !"(). Until the early seventies, given the fixed rate regime, the foreign exchange market was perceived as a mechanism merel% to put through merchant transactions. *ith the collapse of the #reton *oods agreement and the floatation of ma+or currencies the conduct of exchange rate polic% posed a great challenge to central $anks as currenc% fluctuations opened up tremendous opportunities for market pla%ers to trade in currenc% volatilities in a $orderless market. In 1975 whereby the Rupee was delinked from the ound !terling and under a managed floating arrangement, the external value of the rupee was determined $% the &#I in terms of a weighted $asket of currencies of India-s ma+or trading partners. .lowl% a demand $egan to $uild up that $anks in India $e permitted to trade in F/&E0. In response to this demand the &#I as a first step permitted $anks to undertake intra1 da% trade in F/&E0 in !")2. "uring the eighties, deterioration in the ma#ro$e#onomi# situation set in ultimatel% warranting a structural change in the exchange rate regime which in turn had an impact on the F/&E0 market. 3arge and persistent external im$alances were reflected in rising level of internal inde$tedness. The graduated depreciation of the rupee could not compensate for the widening inflation differentials $etween India and the rest of the world and the exchange rate of the &upee was getting increasingl% overvalued. The Gulf pro$lems of August !""4 given the fragile state of the econom% triggered off an unprecedented crisis of li5uidit% and confidence. As a first step in this direction the &#I effected a two1step downward ad+ustment of the &upee in 6ul% !""!. The scheme provide a $oost to exports and with the experience gained in the working of the scheme it was thought prudent to institutionali7e the incentive component and conve% it through the price mechanism. The &#I was o$liged to sell foreign exchange onl% for imports of essential commodities such as oil fertili7ers life saving drugs etc. $esides the government-s de$t servicing.

MOVEMENT OF RUPEE AGAINST DOLLAR SINCE 194 TO 2!1". The Indian rupee which was on a par with the American currenc% at the time of Independence in !"() has depreciated $% a little more than 89 times against the green$ack in the past 88 %ears. To finance welfare and development activities especiall% with the introduction of the Five1:ear ;lan in !"9! the government started external $orrowings. This re5uired the devaluation of the rupee. After independence, India had chosen to adopt a fixed rate currency regime. The rupee was pegged at 4.79 against a dollar between 194 and 19!!. Two consecutive wars one with China in !"8< and another one with ;akistan in !"89, resulted in a huge deficit on India=s $udget forcing the government to devalue the currenc% to ).9) against the dollar. The rupee=s link with the #ritish currenc% was $roken in !")! and it was linked directl% to the >. dollar. "loating rate regime begins. In !")9 value of the Indian rupee was pegged at 2.?" against a dollar. In !"29 it was further devalued to !< against a dollar. In !""! India faced a serious $alance of pa%ment crisis and was forced to sharpl% devalue its currenc%. The countr% was in the grip of high inflation low growth and the foreign reserves were not even worth to meet three weeks of imports. >nder these situations the currenc% was devalued to !)."4 against a dollar. !""? was ver% important. This %ear currenc% was let free to flow with the market sentiments. The exchange rate was freed to $e determined $% the market with provisions of intervention $% the central $ank under the situation of extreme volatilit%. This %ear the currenc% was devalued to ?!.?) against a dollar. The rupee traded in the range of (4194 $etween <444 and <4!4. It was mostl% at around (9 against a dollar. It touched a high of ?" in <44).The Indian currenc% has graduall% depreciated since the glo$al <442 economic crisis. #iberalising the currency regime led to a sharp $ump in foreign in%estment inflows and boosted the economic growth.

resent !#enario The Indian rupee extended falls to a new low of 89.94 to the dollar as heav% demand from importers along with weak domestic e5uities continued to weigh on sentiment. *eakness was also seen after Federal &eserve minutes hinted that the >nited .tates was on course to $egin tapering stimulus as earl% as next month. Moreover continuing its slide the rupee also made all time low against #ritish pound and $reached the !4<1mark on local $ourses.*ith this #ritish pound has $ecome the first ma+or foreign currenc% to cross !44 levels against rupee. @owever steps taken $% the &#I and the government to cur$ volatilit% in the exchange rate have had little effect so far. %a&or reasons for the plunging fate of the rupee are'

(urrent )##ount "efi#it *()"+

CA' is considered to $e the ke% factor $ehind the steep volatilit% of rupee against dollar. CA' occurs when the total import of goods and services of a countr% is greater than the total export goods and services thus making India a de$tor to the rest of the world. India-s current account averaged a deficit worth !.9 $illion >.' since !"() until <4!?. In the first 5uarter of <4!? the CA' was !2.! $illion and at present it has gone up over <4 $illion.

P##$ E%#&#'(% G$#)*+

The Gross 'omestic ;roduct AG';B has hit its lowest patch in the last !4 %ears. *ith fall of the G'; to (.2C it had significant effect on the stock markets and the falling rupee. The manufacturing mining and the agricultural sector has faltered and investors have $ecome cautious of investing in India. The central government has unravelled a multipronged strateg% to $ring a$out an increment in the inflow of dollars and limit the outflow to compensate for the sliding value of rupee. A planned increase in import dut% has $een exercised to shore up the decrement in rupee.