Rising Rupee & Sez

7/31/2019 Rising Rupee & Sez

1/10

RISING RUPEE--------------------

THE RUPEES (INR) appreciation during the last six months or so has taken the wind outof Indias corporate sails. INR has appreciated by nearly 9% against the US dollar (USD)

in the past six months and approximately 6% against the British pound (GBP) and about5% against the Euro (EUR). All exporters, especially IT companies, have been severely hitby the appreciation of the INR. On the other hand, currencies of Taiwan and Hong Kongare depreciating, posing a problem to Indian exporters in the global market. IT and theservices industry will lose its competitive advantage if the currencies of their major globalcompetitors do not appreciate as much as the INR. The Rs. 1,400 crore package announcedby the government to mitigate the hit taken by Indian exporters is just not enough to healthe wound.

But there is another side to the story. Certain sections of the economy are welcoming theappreciation. This is because of the following key reasons:

Firstly, the IT industry which is strongly lobbying against the appreciation of the INRshould realize that its phenomenal growth during the last decade is partly because of INRdepreciation too. INR depreciated by almost 100 percent against the USD from a level of25 in 1992 to 48 in 2003. Further, Indian economy needs development of infrastructurewhich warrants huge investments. A big chunk of the said investments must come fromoverseas. The host countrys currency, viz., INR, must appreciate to instill confidence intooverseas investors.

Secondly INR appreciation is welcomed by those companies with overseas borrowings.Significant levels of foreign currency denominated, especially USD-denominated loans

generate forex gains because of reduced interest payout occasioned by the rising INR.Companies like Ranbaxy and L&T have been able to generate forex gains in the lastquarter because they have substantial exposure to ECBs.Thirdly, major Indian stock indices are able to scale new peaks because of recentappreciation in the INR. It has been proved beyond any doubt that there is a very strongcorrelation between our stock indices and the parity value of the rupee vis--vis majorcurrencies like the USD. Analysts point out that during the last year Sensex and INRexhibited a correlation of approximately 80% as against the 30 - 40% exhibited in the lastthree years. FIIs who have heavily invested in India are reluctant to sell off mainlybecause of the appreciating INR.

Lastly and most importantly, INR appreciation has helped control inflation. One of thereasons for softening of inflation during last few weeks may well have been theappreciation of INR.Therefore INR appreciation should be viewed in the broader context of its impact on theeconomy as a whole. The appreciation of the INR has helped in bringing down thecountrys import bill particularly that of oil imports which easily accounts for more than a


2/10

third of all imports. This in turn helps the country in bringing down the trade deficit.Industry will be able to source its inputs from abroad at a cheaper price and hence canexport more. India Inc should learn to live with INR appreciation and try to exploit it to thehilt.

THE INDIAN RUPEE has been on a roll for about a year or so and it has been steadilyappreciating against the US dollar after reaching a level of Rs 47 per dollar in July 2006.While it witnessed a creeping appreciation for the major part of the past two years, thanksto the RBIs active interventions, the pace of appreciation has suddenly accelerated in therecent past because of the significant jump in dollar inflows.

On 28th of March rupee reached a peak of 43.01 against dollar marking a seven-year highand closed the day at 43.05. Rupee has gained 2.5% since the beginning of the march andover 3% since the beginning of the year 2007. Analysts feel that the RBI is not interveningin the forex market due to inflation worries. Many currency market analysts believe that the

Rupee may appreciate further and may find some support at 41 41.5 range.

Appreciation of the rupee vis--vis the USD has caused lot of worries among Indian exportcommunity mainly on account of the fact that predominant portion of Indian export isinvoiced in terms of USD. Problem is more severe in case of IT firms whose more than80% of revenue is in terms of USD making them highly exposed to rupee appreciation. ITindustry analysts are of the opinion that even one percent appreciation in rupee will hit themargin by 30- 40 basis points. If the same trend continues, Indian IT companies have torevise their guidelines for 2008. On the other hand the situation is proving a boon for oilmajors like IOC, HPCL or BPCL who are the major importers of crude oil.Impact of this appreciation can be seen on scripts of major IT companies. IT major Infosyslost over three per cent on Wednesday the 28th over concerns of rupees recent surgeagainst the US dollar. The scrip touched an intra-day low of Rs 1993 from Tuesdays closeof Rs 2,057. Even the plight of other IT companies is also the same.It is the high time for Indian exporters to seriously consider hedging themselves againstrupee appreciation. Many IT firms have already sensed the possible rupee appreciation andhedged against the same. Company like TCS, which is more conservative, has hedged over600 million dollar which accounts for 75% of their forex exposure. Even other IT exporterslike Infosys, I-flex, Wipro have also covered significant portion of their currency exposure.Some companies have already started postponing their receivables and parking theirforeign currency receipts in Exchange Earners Foreign Currency (EEFC) accounts. Notonly IT companies, many companies in sectors like pharma, jems & jewellery, constructionand automobile that have got little currency exposure as compared to IT companies are alsospeeding up their hedging activity.

Its the right time for RBI to take active intervention in forex market to protect Indiasexport competitiveness on one hand and should also restrict spiraling inflation. It ishoped that RBI will be able to do this balancing act.


3/10

News reports a few weeks back suggested that the GDP of India had crossed the trillion-dollar mark. The recent appreciation of the Rupee since January 2007 by approximately10% helped reach the milestone far earlier than it would have been otherwise possible.

In short, at Rs 45 to a US dollar it would still be roughly $900 million. At Rs 40 to a USdollar, the GDP of India now stands at $1 trillion.Let us extrapolate these arguments mathematically on a 'linear scale.' At Rs 20 to a USdollar, India's GDP would be $2 trillion; at Rs 10 it would be $4 trillion, at Rs 5 it would be$8 trillion; at Rs 2.5 it would be $16 trillion and at 1 Rupee to a dollar it would beapproximately $40 trillion.That would be approximately 3.5 times the GDP of the US, which stands at approximately$12 trillion! With our population 3.5 times the size of the United States, naturally this

would translate into an annual per capita income (and with it perhaps the lifestyle andconsumption) that is close to the American per capita income. This explains in a nutshellthe importance of exchange rates.Put differently, the per capita income of Indians would be comparable with that ofAmericans that too in dollar terms. Obviously, what differentiates the income levels of twocountries is the exchange rate, which, in turn, is based on a variety of factors, not the leastbeing the productivity, perceptions and technological differentials.For these very reasons, while it may be absurd to believe that a Rupee could be equal to aUS dollar, it has to be noted that the current value of Rupee is equally bizarre. The truth, asthey say, lies somewhere in between and it seems we are gravitating towards its naturalvalue.Nevertheless, an appreciating Rupee -- a near economic certainty -- throws up a new matrixfor the Indian economy. As exports earnings, especially those denominated in dollars,come down and imports become affordable in Rupee terms, Indian business is all set for anew paradigm.The coming collapse of the US dollar

While the old order gives way to the new, it is quite important to note that those who arerooted in the past and are not dexterous enough to carry out the necessary adjustments arein for massive trouble. The moot question is whether India would seize the opportunity as itunfolds, prepare for the same and profit from it?

The Rupee has appreciated. Or has it?


4/10

What adds a different dimension to the debate on the precise exchange value of the Rupeeis its recent appreciation in the past few weeks. Post-East Asian currency crisis of 1998,every Asian country -- including India -- has learned one lesson the hard way: no amountof forex reserves are sufficient to defend its currency in times of a crisis.

Consequently, every country is compelled to accumulate forex reserves. While this is partlypsychological, this arrangement suited them strategically too as countries began acquiringthe US dollar to keep the value of their national currency down to boost their exports.Post-reforms, it may be noted that the exchange rate of the Rupee too is not purely market-determined, with the Reserve Bank of India [Get Quote] constantly intervening in the forexmarkets to 'guide' the value of Rupee, while ensuring that the Indian exporters do not loseout on their competitiveness.These is done by RBI through a complex calculation of benchmarking the value of the

Rupee vis- -vis a host of currencies and taking into account their relative variations in theirexchange rates across the globe and further adjusting it for other factors, such as inflation.For the past two months period commencing mid-March and ending mid-May 2007, it iscommon knowledge that the Rupee has appreciated by approximately 10% against the USdollar. However, when we benchmark the Rupee with a composite 36-currency index, ithas not shown any significant appreciation as many currencies many of which are India'scompetitors on the global stage.This strange and complex paradigm -- a Rupee that appreciates vis-a-vis the US dollar, butdoes not lose its competitiveness -- requires a studied response.Indian businesses need to work out a new matrixObviously, exporters must realise that the Rupee appreciation vis- -vis the US dollar hassurely resulted in loss of revenue but has not eroded their competitiveness as othercurrencies too have appreciated against the US dollar.Another way of looking at it is to be conscious of the fact that the recent appreciation of theRupee has more or less negated the recent spurt in crude prices.But for it, we would have seen a hike in petrol and diesel prices. This would have naturallytriggered another bout of inflation, leading to interest rate hikes, which would in turn havehad a negative impact on the economy. Apparently, exporters have benefited from Rupeeappreciation too.

Nevertheless, given this economic verity, it is important that exporters, in particular, andIndian businesses, in general, recalibrate their position. These include:


5/10

Consequent to Rupee appreciation, the net earnings of our exporters in rupee termswould necessarily dip. Exporters need to guard themselves against anti-dumpinginvestigations that would necessarily follow in this new paradigm. Accordingly, anexporter has to perhaps conduct a comprehensive risk analysis of his exports tovarious countries, taking into account the probability of facing anti-dumping

measures in those countries, and has to strategise his operations. Our businesses need to rework their position in the value chain. As the Rupee

appreciates, exporters must realise that 'brand India' has arrived. This means wecannot continue to export or produce products at the low end of the value chain.India, perhaps, needs to import such goods from other developing countries andconcentrate on value-added products. This is possible as, with the appreciation ofthe Rupee, newer technologies become economical and accessible to Indianmanufacturers.

Further, the changing paradigm calls for a re-look at domestic markets by exporters.To aid domestic consumption, the government too has to play its part. One factorthat inhibits domestic consumption is the high incidence of indirect taxes -- we endup paying 16% to the central government and another 12.5% as VAT to stategovernments, aggregating to approximately 30% or one-fourth of retail prices. Thisis one of the highest in the world. Obviously, indirect tax reforms are crucial toboost domestic consumption.

Exports of services would apparently be hit due to appreciation of Rupee and salary

levels in this sector may see a dip. But the rise in the intrinsic value of the Rupeecompensates for the same. For instance, an Rs 50 tip to the waiter may do when Rs100 would do today. An alternative that could be explored would be to bill in othercurrencies, perhaps in Euro, Yuan or Rupee.

Another area that requires deep contemplation by the business community is to re-

compute their entire strategy on Special Economic Zones (SEZs) given thesedevelopments. It has to be noted that the success of the Chinese SEZs was aidedand abetted almost close to a decade by a tightly pegged Yuan to US dollar. Theentire economics of SEZs could undergo a tectonic shift in light of a sustainedRupee appreciation.

An appreciating Rupee makes foreign direct investment (FDI) into India attractiveas it hedges such investments from exchange rate depreciation. On the contrary, itprovides a further incentive through capital appreciation. This once again calls for acomprehensive strategic positioning to leverage the opportunity -- not only byexporters but even by others. Obviously, as an investment destination, India andperhaps China, with their booming stock exchanges and rising currency, could bethe best bet for investments. Of course, one cannot forget investments in gold andreal estate.


6/10

But are we prepared?

For long, we have been fixated with exports and implicitly subsidising it through a weakcurrency policy. In effect we subsidised the consumption of others. Yes, it is conceded that

an export-driven model was necessary in the aftermath of the currency crisis of earlynineties.

Nevertheless, such a policy has outlived its purpose especially when surplus foreignexchange is a problem by itself. Surely, while one is not arguing against exports, onesuggests, as a strategic response to this dynamic situation that Indian businesses shouldhave a comprehensive re-look at the domestic markets.

It may be not be out of place to mention that India is home to one-sixth of humanity. Whenexporters of other countries are looking at Indian markets in awe, primarily because of itssize, Indian businesses can ill afford to ignore their own home markets. One crucial

strategy not yet effectuated in our fight against the scourge of poverty is to improvedomestic consumption. A rising Rupee precisely aims and abets this.

Finally, as we flex our economic muscle, Rupee appreciation would be a naturalconsequence. For, a currency reflects the brand image of a nation. As we keep our trystwith destiny, this process will accelerate further.

This may mean that the Rupee would be readily accepted as an international currency and,as a further fallout, Indians would be highly valued and widely recognised. After all, in thematerial world all that matters is hard power: military strength and currency value.Yet the billion-rupee question is: Is the Indian government and businesses prepared tohandle this responsibility and changed paradigm?

SEZs-------


7/10


8/10

The minister's reply triggered angry reactions from Left, BJP and some Congress members,who claimed that SEZs have become real estate business as norms are being violated andsought a special discussion on the matter.

Amid the din, Nath said the government will look into specific instances of 'misuse orabuse' of the Act if pointed out, but that assurance did not cool down the tempers afterwhich Chairman Hamid Ansari had to intervene.

The chairman agreed to allow a special discussion on the matter as demanded by CPI-Mleader Sitaram Yechury and asked members to inform the minister about specific cases ofviolation of SEZ norms.

Several members claimed that cinema halls and amusement parks are coming up in SEZs inviolation of norms and in the pretext of setting up such zones land is being grabbed.

"SEZ Act is passed by the House and it is not a policy. If there is misuse or abuse, we willbe very happy to look into it if specific cases are pointed out," Nath said responding to theconcerns of members.

Nath said the Economic Survey of the government has dispelled concerns raised aboutSEZs and shown that there is "very, very substantial gain".

Senior BJP leader Venkaiah Naidu sought to know whether the government was ready toconvene a meeting of all political parties to discuss what he described as a 'burning issue'.

Nath said the government has not conducted any study or assessed the impact of the recenteconomic slowdown on exports from SEZs and noted that it was too early to concludewhether the global slowdown would affected Indian exports.

On reviewing the viability of SEZs in the present economic climate, he said as the newlyestablished SEZs have just begun operations, it is too early to make any assessment on theirviability.

He said exports from SEZs was of Rs 34,615 crore (Rs 346.15 billion) in the last fiscal, upfrom Rs 22,840 crore (Rs 228.4 billion) in 2005-06 and Rs 18,314 crore (Rs 183.14 billion)in 2004-05. There is a growth of 89 per cent in two years, he added.

In the current fiscal, exports have reached the level of Rs 40,000 crore (Rs 400 billion), hesaid.

Giving more details, Nath said under the SEZ Act, 2005, 439 formal approvals have beengranted for setting up special economic zones spreading over 60,168 hectares in 22 statesout of which 202 have been notified.

Till last year, the total incremental employment in all the SEZs is 1.46 lakh, he said.


9/10

The minister said new generation SEZs have brought in investment worth Rs 70,225 crore(Rs 702.25 billion) out of which Rs 67,347 crore (Rs 673.47 billion) have been made inSEZs notified under the SEZ Act, 2005.

The much-touted special economic zones policy runs the risk of being reversed, in terms ofattractive tax exemptions it offers, with the government's finances coming under stress, astudy has said.

The study noted that tax incentives extended to SEZs may lead to a loss of 4-5 per cent ofthe total tax revenues.

"The (SEZ) policy is yet to be fully tested, especially with regard to the potential adverseimpact on tax revenue and an increased disparity in development across regions. This couldlead to some review of policy which will clearly affect developers' plans," a study bybrokerage and investment banking firm CLSA has said.

With the government's finances not in good shape, the potential for large tax revenue lossesarising from the SEZs has been a key concern, it said.

"While tax receipts are increasing and fiscal deficit decreasing, many are arguing that Indiacannot afford the loss of tax revenue from export business growth in SEZs," it said.

On one hand, Commerce Department's refrain has been that without suitable taxconcessions, developers would not invest and that corporate tax concessions apply toexport incomes, while on the other questions have been raised by the finance ministry,Reserve Bank of India, International Monetary Fund, World Trade Organisation, andOrganisation for Economic Cooperation and Development about "financial feasibility ofthe scheme."

According to the finance ministry estimates, revenue loss from SEZs could be over 25billion dollars, more than the earlier estimate of $23 billion for the period 2007-10."Nevertheless, should revenue losses become too great there is a risk that the governmentcould reverse the policy and reduce exemptions," the study said.

However, the study goes on to add that a pick up in organised sector employment arisingfrom the new SEZs should lead to improved tax administration which could partly offsetlosses due to tax concessions. So far, more than 600 SEZs have been cleared, of which 187have been notified.

Another study conducted last year by think-tank CUTS had found that the revenue lossconcerns of the finance ministry were notional and benefits accruing from the tax-freezones would exceed the potential tax losses.


10/10

The CLSA study further identifies extension of export schemes such as SoftwareTechnology Parks of India and Export Oriented Units beyond March 2009 as a factor thatcould affect the growth of zones.

Both the schemes provide similar incentives as the SEZs and industry has been lobbying

with the government for their extension, the study said.

"More than 50 per cent (226) of the formally approved SEZs are IT/ITeS sector specificand the reversal of these schemes could cause a mismatch in supply and demand from ITand export manufacturing businesses, potentially affecting the ability of the developers toattract tenant businesses to their SEZs," it said.

Land acquisition has also proved to be the biggest hurdle for SEZs, the study says. Amidrising land prices across the country, the SEZ policy has come under fire as a means of landgrabbing by developers, allowing the removal of land in return for inadequate

compensation and "conversion of valuable fertile farm land into industrial zones."

The study estimates that projected investment in SEZs over the next 10 years could be 213billion dollars, if 75 per cent of the formally approved zones and 25 per cent of the in-principle approved SEZ land is developed and operational.Exports from the SEZs during the 10-year period could touch $352 billion, nearly half ofIndia's total annual exports, with IT and ITeS SEZs contributing 30 per cent at $105 billion.

The zones are also projected to create 14 million direct and indirect jobs, leading to a 30per cent rise in the current organised employment

Rising Rupee & Sez

Documents

Transcript of Rising Rupee & Sez