Where should USDINR be as compared to other EM currencies?

Where should USDINR be as compared to other EM currencies?

The biggest downfall of indexing is a discretionary base, which can diametrically change the argument, making conclusion a matter of selection.

To answer the above question I take a set of 17 EM currencies (used in the ASIA-H and ASIA-M REER by the government) and assign weights to them basis their trade weights and their market relevance to INR on a day to day basis. Only trade weights would be inappropriate as it totally ignores the capital account flows (Korea and India are correlated when it comes to risk sentiments and capital flows but the trade weights assigned to KRW in a REER index of INR is very low). The weights are given at the end of this note.

Results

The table below shows the USDINR levels as compared to other EM currencies for various periods in the past.

Comparison	Em Currency Appreciation / Depreciation	INR Appreciation / Depreciation	Comparative USDINR value	USDINR should move?
Last Month	0.6%	2.6%	66.30	UP
Last 6 months	-1.4%	2.6%	67.65	UP
Last 2 years	-9.0%	-4.0%	68.13	UP
Last 6 years	-33.6%	-45.8%	59.56	Down
Since 2002	-17.8%	-34.7%	56.84	Down

INR has been kept at undervalued levels in the long run

In the long run, i.e., from 2002 till now INR depreciation has been far higher than other EM currencies. This is in contrast to the current belief that INR REER being near 116 levels makes INR overvalued. If compared from 2002 or 2011 beginning USDINR should have been 56.84 or 59.56 vis-à-vis other EM currencies.

Post 2011

On the other hand any base selection from 2011 onwards will make INR look overvalued currently. Basis the price action over the last 2 years and last 6months in other EM currencies, USDINR should have been 68.13 or 67.65 respectively.

Policy Choice?

The fact that after the FEB 2017 RBI policy, USDINR started its downward journey from 67.50 and today post policy Nationalized banks allowed INR appreciation seems to suggest that INR appreciation is a choice that has been made. The reasons to choose INR appreciation now could be the following:

-        Correct the long run undervaluation of INR that has been maintained in the long run (see table above for last 6 years and since 2002). There is enough empirical evidence to prove that India has achieved stronger export growth with a stronger INR than with a weaker one. In 2012 as per this same index INR was 22.7% undervalued but still 2013 happened.

-        Ensure that India is not marked by the US as a currency manipulator.

-        Release the excess RBI capital, which was built through INR depreciation to support growth and control inflation. A stronger INR would also support dollar borrowers helping banks to improve their NPA.

As I said it’s not a conclusion but a choice. There are enough arguments to choose from on both sides of the currency debate and here India seems to be choosing a stronger currency. I personally think that a stronger currency is good for a country which has a current account deficit and has good political and financial markets stability but that is normative and beyond the purview of this note.

View

Now with 64.70 broken USDINR can head towards 64.30 levels.  A break of which can push it towards 63.50.

Weights used

Currencies	Relevance	Weights
CNY	High	16
KRW	High	14
SGD	High	11
HKD	Medium	5
VND	Medium	5
MXN	Medium	5
THB	Medium	5
MYR	Medium	5
TRY	Medium	5
ZAR	Medium	5
BRL	Medium	5
RUB	Low	3
BDT	Low	3
PHP	Low	3
TWD	Low	3
IDR	Low	3
LKR	Low	3