The new RBI should revert to old rupee policy

The new Governor at Mint Road, Mumbai has arrived at a difficult moment. Economic growth has slipped, inflation remains elevated, while the international environment has become increasingly uncertain after a change of political regime in the United States.

- ABHISHEK ANAND, JOSH FELMAN, ARVIND SUBRAMANIAN

This is consequently not the time to bombard Sanjay Malhotra with unsolicited advice. Except on one critical issue, namely exchange rate policy.

Our advice is simple: Abandon the strategy of the past few years and revert to the policy followed in the previous two decades.

In our earlier piece in these pages, we highlighted the unwelcome consequences of the exchange rate policy adopted under the outgoing Reserve Bank of India (RBI) regime. We argued that the pursuit of an unnaturally stable dollar exchange rate has damaged India's competitiveness by about 10 per cent (on average), while reducing reserves by about $100-$150 billion since October 2021. This piece makes two additional points, regarding the magnitude of intervention and its unwanted side effects, namely the tightening of monetary conditions at a time of slowing growth. Consider each.

First, new data has come to light, showing that the intervention to support the rupee was far greater than we had estimated. We had used the change in reserves to proxy intervention. But it turns out that this approach underestimated the RBI's activity by a considerable margin because the RBI was supplementing normal spot transactions with extensive operations in the forward market, which will only affect reserves months from now when the contracts are settled.