India has reached a great shape in the 21st century and yet the value of the Indian rupee stands very low today in contrast to what it was since the beginning of its Independence. Every week, we hear reports in media (not only newspapers but any form of it) proclaiming that India is growing at an incredibly high rate. Yes, India has developed but how is it measured?
Is it GDP? or less poor people? or growth rate? Or purchasing power?
I argue or rather show that the objective measurement of any “development” in the country is measured by its currency value.
Importantly let us observe the role played by the Reserve Bank of India (similar to the Federal Reserve in the US) which is empowered to “regulate”, “supply” and “control” the money supply, amongst other things, otherwise which the country would go into “tatters” and private banks would make your life miserable, isn’t it!!?
Well, if I ask any person in India or otherwise if the country was “developed” before or after it attained its Independence then the answer sure would be after Independence.
Is it? Let us see.
Before India attained its Independence, the value of rupee was much higher earlier than what it is today. Yet no one seems to question or understand as to why the value of Indian rupee stands so low today despite of all its globalization, liberalization and privatization policies.
For understanding this better, I am inclined to discuss some basic economics which might be helpful in understanding the role played by RBI—and then you can decide if it is really to achieve the “noble” purpose of regulating or controlling or is it achieving the exact opposite of what was “intended”.
For instance, let us say that the total amount of money in circulation is Rs. 100. Of course, everyone knows that the value of those hundred rupees is not generated just by printing the currency but that something (usually gold) is kept as a reserve for the value so created or produced on the amount printed.
Now, let us imagine that you could buy 100 shirts or whatever commodity out of that 100 Rupees value. The economy is growing and people buy and exchange a lot of things for the money they have i.e. production increases and the value of the rupee ultimately increases.
Now, let us suppose that after trading those 100 shirts, you have incurred some profit out of the amount i.e. say, you have made the “value” of Rs. 100 almost equivalent to Rs.150.
But in this instance what the RBI does, in “public interest”, is that it supplies the remaining Rs.50 so generated by printing more money. So, you have Rs.50 more in circulation and value of the rupee actually remains the same but rather “purchasing power” of the people increases.
So, you do have Rs.50 more in your hand but don’t forget that the value of it is the same as what you used to have or rather worse since prices accordingly rise. That means, the same 100 shirts that you would have otherwise bought for Rs.100 is now bought for Rs.125 or 130, considering you have some savings.
I am just limiting the commodity to one aspect i.e. shirts but the overall principle remains the same.
So, the value of the rupee should have actually gone up due to the production generated and created due to such transactions. But it will not happen because of the extra amount printed for which the value of the rupee remains the same, or decreases. So, what should be done about this? If the amount in circulation is kept constant, amongst other things, then the value of the rupee would truly reflect the growth of the economy. But we see daily that the prices only increase and value of the rupee going down simultaneously, despite all their policies and what not.
Now, I really do not know what “ought” to be done in this instance except that Banks generally issue currency based on some value it has attained prior to issuing such currency. But the RBI, in fact, makes things worse for us. Apart from this, RBI also sets the lending rates of the banks, prescribes “saving interests” for all banks and some major blunders which they don’t realize nor care to realize.
Let private banks function on their terms and see the amount of growth that takes place in an economy. For analogy of the role played by the Central Banks, observe the role by the Federal Bank of USA which had set mandatory low interest rates on housing loans etc. for all private banks and the effect is what see today i.e. recession. So, if the economy has to be saved, then RBI or Federal Bank are not the solution, they are the problem!
I would like to thank Ramana who had shared some great inputs on this topic without which this post would not have been possible.
Is it GDP? or less poor people? or growth rate? Or purchasing power?
I argue or rather show that the objective measurement of any “development” in the country is measured by its currency value.
Importantly let us observe the role played by the Reserve Bank of India (similar to the Federal Reserve in the US) which is empowered to “regulate”, “supply” and “control” the money supply, amongst other things, otherwise which the country would go into “tatters” and private banks would make your life miserable, isn’t it!!?
Well, if I ask any person in India or otherwise if the country was “developed” before or after it attained its Independence then the answer sure would be after Independence.
Is it? Let us see.
Before India attained its Independence, the value of rupee was much higher earlier than what it is today. Yet no one seems to question or understand as to why the value of Indian rupee stands so low today despite of all its globalization, liberalization and privatization policies.
For understanding this better, I am inclined to discuss some basic economics which might be helpful in understanding the role played by RBI—and then you can decide if it is really to achieve the “noble” purpose of regulating or controlling or is it achieving the exact opposite of what was “intended”.
For instance, let us say that the total amount of money in circulation is Rs. 100. Of course, everyone knows that the value of those hundred rupees is not generated just by printing the currency but that something (usually gold) is kept as a reserve for the value so created or produced on the amount printed.
Now, let us imagine that you could buy 100 shirts or whatever commodity out of that 100 Rupees value. The economy is growing and people buy and exchange a lot of things for the money they have i.e. production increases and the value of the rupee ultimately increases.
Now, let us suppose that after trading those 100 shirts, you have incurred some profit out of the amount i.e. say, you have made the “value” of Rs. 100 almost equivalent to Rs.150.
But in this instance what the RBI does, in “public interest”, is that it supplies the remaining Rs.50 so generated by printing more money. So, you have Rs.50 more in circulation and value of the rupee actually remains the same but rather “purchasing power” of the people increases.
So, you do have Rs.50 more in your hand but don’t forget that the value of it is the same as what you used to have or rather worse since prices accordingly rise. That means, the same 100 shirts that you would have otherwise bought for Rs.100 is now bought for Rs.125 or 130, considering you have some savings.
I am just limiting the commodity to one aspect i.e. shirts but the overall principle remains the same.
So, the value of the rupee should have actually gone up due to the production generated and created due to such transactions. But it will not happen because of the extra amount printed for which the value of the rupee remains the same, or decreases. So, what should be done about this? If the amount in circulation is kept constant, amongst other things, then the value of the rupee would truly reflect the growth of the economy. But we see daily that the prices only increase and value of the rupee going down simultaneously, despite all their policies and what not.
Now, I really do not know what “ought” to be done in this instance except that Banks generally issue currency based on some value it has attained prior to issuing such currency. But the RBI, in fact, makes things worse for us. Apart from this, RBI also sets the lending rates of the banks, prescribes “saving interests” for all banks and some major blunders which they don’t realize nor care to realize.
Let private banks function on their terms and see the amount of growth that takes place in an economy. For analogy of the role played by the Central Banks, observe the role by the Federal Bank of USA which had set mandatory low interest rates on housing loans etc. for all private banks and the effect is what see today i.e. recession. So, if the economy has to be saved, then RBI or Federal Bank are not the solution, they are the problem!
I would like to thank Ramana who had shared some great inputs on this topic without which this post would not have been possible.
PS: I need not be an “economist” to write on these things. Understanding of basic economics would do!
Please feel free to post any comments on this.
RBI is a key tool of politicians to enrich their political vote bank! Read more about Keynesian economics, politicians love this theory!
ReplyDeleteHow does it all matter? Today I have Rs. 4 (with Rs. 100 in total money-stock) and tomorrow I will have Rs. 40 (with Rs. 1000 in circulation).
ReplyDeleteIt matters because the real value of the currency would not be reflected. Consider this, the prices of the goods also accordingly reduces! Instead, what can be done is that, you can denominate Rupees to further level. Like we had "annas", "paisa" etc earlier. So, value of these currency would also increase! And even the poorest of the poor person would have a great value with him even if he is given that less amount! But what would happen if he has Rs. 10 out of more currency is that he can just buy the same worth of goods which is not worth the squeeze. But, of course, poor person is not the only criteria in this regard but overall, it does matter.
ReplyDeleteToday I can buy a shirt for Rs. 1 (Rs. 100 in circulation), tomorrow the same will cost me Rs. 10 (with Rs. 1000 in circulation) or Re. 0.10 (with Rs. 10 in circulation).
ReplyDeleteIn the first case, the value of money would have gone down, resulting in a higher cost for a shirt [inflation], and in the second case, the value of money would have gone up, resulting in a lower cost for a shirt [deflation]. Doesn't change anything for a poor man, or a rich man, for that matter.
But its more than that. Consider the same example that you can buy a shirt for re.1 today. When the value of the rupee increases with more amount in circulation, it need not be the case that you can still be in a position to buy the same shirt for the same price, be it Rs.1 or Rs.10. What I am primarily saying is that the "value" of the amount decreases or increases. More currency is inflation and prices rise.
ReplyDeleteHope I cleared your doubt but if you still have anything further, please add.
The RBI keeps the value of the Rupee down for more than one purpose.. it wants us to have a bigger advantage of the growth of the rupee than the brand value. one reason why it keeps it down is also that importers get to have more profits.. say i have 200 dollars in my account in the US, if i transfer it to my account here, i will want the Rupee to be at lowest value so that i get more rupees from 200 dollars, like if 1$ =50rupees, i'd get 10000 rupees but if it was 45 id get lesser rupees.
ReplyDeleteI'm no economist, but that's what i could comprehend..
@Sireesh--You're essentially proving my point. So, the goods which should have otherwise costed Rs.1000 is now costing Rs. 10,000. Think about it. Who is at a benefit and who is at loss? In all aspects, its the people who work hard who are at loss! The value of your work is not worth the money you're getting.
ReplyDeleteIt's not the importers that are protected, but the exporters. The Indian government usually inflates the money-supply in sync with the US government. The value of the Rupee essentially floats between two pegs that are closely bound to the US dollar.
ReplyDeleteWhen you are an importer, you are transferring money abroad in form of US dollars. So, the higher the value of rupee against the dollar the larger your profits. ($1 = Rs. 40 is more profitable than $1 = Rs. 50)
But the approach of the Indian government has been export oriented, therefore an artificially devalued Indian rupee serves the purpose of boosting the Indian exporters's profits and keeps them an edge over international competition, while at the same time giving force to the Government's protectionist rhetoric.
Look at it this way: Whenever the US devalues the dollar, the value of the rupee should correspondingly rise against it... it doesn't, because the RBI inflates along with the US Feds.
What this does is keeps it cheap for foreign consumers to import Indian products, which would have become expensive if not for the corresponding currency devaluation.
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As I informed you over our discussion yesterday, the problem of government intervention is the same under different guises: "use of force against private property" and "redistribution of wealth".
(i) Taxation is one form of income redistribution. This is something most people understand. The middle-class and the elite class in any society pay the largest amount of tax.
(ii) Inflation is a form of indirect taxation where wealth is transferred from holders of the currency to the recipients of the new infusions of currency.
They could be recipients of loans that are provided by commercial banks who receive cash credits from the RBI at artificially lowered bank rates.
The larger the loan, the lower the interest rates. The largest loans are often sanctioned by the Government itself to those who are blessed.
Debt monetization is another phenomenon which is common to most countries that profess allegiance to Lord Keynes. The government creates more money-stock in order to pay off its debts.
The money is often used to pay for infrastructure projects (or any such other), the contracts for which are given to preferred contractors (political cronies).
Therefore, apart from the devaluation of the currency - there is a REAL transfer of wealth and the middle-class is the most affected.
Due to the nature of information ( "information assymetry" ), there is a significant time-lag where the market adjusts itself with the devaluation of the currency.
The new entrant in the market with access to a large loan from a commercial bank is now willing to pay MORE for labour, capital goods and consumer goods, while the prices charged in the markets are essentially at the pre-inflation costs. Therefore, the new entrant or the new recipient of loans is able to get the goods cheaper depriving property owners of their REAL wealth which is not money or gold but GOODS.
Is it safe to say that if you are buying with inflated currency, you are buying with (just for example) 10 rupees what you used to buy with 9 rupees, and the person who owns the 1 rupee you are missing is the person who first obtained the fiat money from the government?
ReplyDeleteThe point is that the government is printing currency without any real tangible value to back it up. Therefore, it is an underhanded "gift" to the first few people who receive the economic benefit of the new currency, whereas the other citizens lose buying power.
Is this correct?
@mtnrunner2--Yes, totally!
ReplyDeleteI have read this clumsily written article and the comments with amusement.That is biggest problems of economists.They are effective only in papers and theory.Economics is not to work on ground.It will always fail you.Economics need perfect world.For example competition can never be perfect.In fact most goods are dealt by cartels and oligopolies.Secondly increasing money in circulation does not go equally to all population.It is stored by 3-4% people only in corrupt countries like India.Banks are generating money out of magicians hat.They create money 10 times of their capital.This is pure nonsense.Most of the money circulated in economy is artificial money .Merely numbers in ledger books.Nothing hard to support it.Bankers are biggest problems of world societies.Only bankers get fatter.This is since hundreds of years.Keep bankers at bay.Islamic laws are better for economics and banking.Economics can't take into account black marketing,hoarding, excess greed and unethical businesses.There is no relationship between cost,prodcutivity and prices of commodities.It is time to get rid of all these experts of economics and dump them in nearest sea.India's misfortune is that we have a paper degree carrying economist as PM instead of a political and social visionary.He and his phoney advisers has messed up everything.He blindly and half heartedly apes american system making kachra of everything.In India a flat in Delhi costs Rs 35 lacs for per capita of 55000 and in NY it costs just $ 2.7 lacs for per capita of 47000. What kind of economics we are following in India? What is meaning of all this discussions? It has no logic on ground.Let us not waste time.Strong governance,control on money flow and check on greedy banker is must to make life better for people. Can anyone explain me why land prices have gone up 70% since Singh took over? There is no economics in it.Sheer loot and greed.Indian land mass is not competing with land in UK or USA.It is not exportable or importable.Its cost should relate to local income of people.The purchasing power of rupee in india is going down but its exchange rate vis a vis dollar is gone up or stable for so many years.What economics is this? It is pure nonsense.I would like to receive answers and explanation to my so many queries.
ReplyDelete@Prof RK Gupta, Im not sure what exactly is your point.
ReplyDeleteCurrency adjusts to reflect the difference in Interest rate/inflation among other things. Interest rate and inflation re some of the basic direct factors. Lets assume 1 kilo apple costs Rs 100 in india and $2 in US. Lets assume in India inflation is 10% and in US inflation is 0%. Therefore after 1 yr, 1 kilo apple will cost Rs 110 in India and $2 in Us. Now if you derive the real value of $ is Rs 100/ $2 = Rs 55. So the rupee will depriciate to Rs 55 against 1 dollar. Bottom line you buy the same 1 kilo apple either in India or US for the same amount. This is just a theory in real life there can be multiple factors playing.
ReplyDelete