There is more than element of panic in the reaction to the fall of the rupee this month, methinks. India Inc has been howling ''crisis'' and it blames it on ''policy paralysis". These concerns are misplaced. The fall in the rupee is a natural response to the widening of the current account deficit beyond 4%, exacerbated by the flight of FII capital in the wake of the Eurozone crisis. The decline in the rupee is a natural stabiliser and should cause the CAD to fall this year. Remember, an important reason for the large CAD we are seeing now is huge gold imports. The fall in the rupee should help address this issue.
It may well be that Rs 56 is a bit of an excess but that is to be expected given overshooting in the currency markets. Some intervention may be required whenever there is too steep a fall because FIIs can start pulling out in an even bigger way if they suspect a free fall. The RBI is doing its bit and can be counted upon to do more if required. The government, for its part, is trying to address the fiscal deficit by raising the prices of petroleum products.
It is not at all clear that the flight of FII capital is on account of "policy paralysis". There was little movement on reforms in 2011 but that did not come in the way of nearly $10 bn of FII flows in the first three months of 2012. The present flight of FII flows is a reaction to the Eurozone crisis and represents the preference for the safe haven of US treasuries in times of crisis. Those who think government inaction has led to foreign investment sentiment must explain why FDI rose significantly in 2011-12 over 2010-11.
I don't see the decline in the rupee as a harbinger of bad times to come. The Eurozone crisis that we are now faced with is no different from what we faced in late 2011. Since we managed growth of 7% then, we can be optimistic about touching 7% this year as well. You think that's bad? Think again. If we touch 7%, we will be the second fastest growing economy in 2012 in the world after China.
More in my ET column, Global recovery is two years away.