The Rupee Conundrom

 

On June 5, 1966, the then prime minister, Indira Gandhi, had already taken the decision to go ahead and devalue the rupee by a huge 60 percent the next day. People close to her say she watched Dr Zhivago to get over her nervousness over the momentous decision. It was a big step. she would be devaluing the Indian rupee which stood at about Rs 4.76  to the dollar by to Rs 7.50 to the dollar – everything India bought from the international market would become that much costlier.

In the words of B.G.Verghese, her information advisor “the storm broke the next day.” Till 1966, the Indian currency which was pegged to the British pound, was officially or unofficially acceptable tender over a large part of Asia and Africa, ranging from Beirut to Hong Kong. Aden, Oman, Bahrain, Qatar, Trucial Gulf states ( present day UAE), Tanganikya (former name for Tanzania), Uganda, Seychelles and Mauritius were among nations where the rupee was legal tender.



With the devaluation, Indian rupee suddenly turned global pariah, with few takers anywhere. What prompted Mrs Gandhi to take the step included a huge trade and fiscal deficit, an end to aid from the West ( a punishment for defending itself against an unprovoked attack by Pakistan) and a rising oil bill. The idea was that the devaluation would help India sell more abroad, earn much needed dollars to pay for its imports of oil, food and machinery. 

Mrs Indira Gandhi being sworn in as Prime Minister

 

Exports did not surge as expected and Indian financial prestige suffered even further. The conservatives within the Congress including K.Kamaraj felt it was a disaster. Import substitution, and austere curbs on import of most goods helped Mrs Gandhi’s government stave off embarrassing foreign exchange flows problem. 





Cut to July 1991, Dr Mammohan Singh managed to persuade his boss, the then prime minister,  P.V Narasimha Rao to agree to devalue the rupee by some 20 per cent in two steps to Rs 25.95 in an operation code-named `Hop-Skip and Jump’. Rao, too was nervous, he remembered the criticism, his former boss Mrs Gandhi had, had to face. Since 1975, the rupee had been pegged to a basket of currencies which included the Dollar, Yen, Pound and Deutsche Mark.

Dr Singh walks the reforms path

That time round, however, the ` jump’ happened. The slew of reforms which followed, including partial decontrol of the rupee, trade and investment liberalisation, unleashed the “caged tiger”, that India had become. Though the trade deficit quickly rose after falling for a few years, a surge in foreign investment inflows saw India’s financial fundamentals strengthening and global prestige rising.

June 2013 is no different. India’s fiscal and trade deficits have risen to unmatched levels. India’s annual fiscal deficit has hit an all time high of Rs 4,90,00 crore, while its trade deficit for 2012-203  stood   at over $ 190 billion. For just the single  month of May, the trade deficit  was $ 20.14 billion.

This time round however, the rupee is not pegged, it was on free float and the market decided what it’s worth was.  One month of aggressive selling by global financial giants in India’s bond market had helped push the price down by 12 per cent, with the currency losing 1.4 per cent in just one single day – Thursday, June 20.

The question uppermost in many people’s minds, is will Dr Singh be able to recreate his 1991 magic and match the fall of the rupee with unleashing a wave of reforms which will take India forward or will it be a 1966 story, a drop in value followed by more economic disasters.

The problem for the good Doctor and his lieutenant, finance minister P.Chidambaram, is that they are hamstrung by two major problems – lack of sufficient support in Parliament to push through significant reforms like raising the foreign investment cap in insurance and paucity of time – general elections are slated for early next year and in a few months from now, the government will have to slip into populist mode and forget about taking hard headed economic steps which may be unpopular.

Some tweaks can be expected – increase in gas prices, raising the cap on foreign investment in defence and telecom industries – decisions which do not require legislative approval. However, the biggest obstacle  to reform remains red tape – a $ 12 billion investment plan by Korean giant Posco remains on paper as departments battle it out over forests which may or not be cut down for mining and steel plants.

Indians' appetite for gold increasing

However, to give credit to Dr Singh and his team, at least some wise decisions have been taken. There is no move to ban gold imports or to raise taxes on it. Despite the fact that a fall in gold prices coupled with debasement of the Indian rupee’s value, can be expected to further whet appetite for bullion among domestic customers, many of whom see gold as a hedge against inflation and financial market turbulence.

However, the Singh’s government seems to have ruled out any quantitative curbs on gold imports or of higher taxes. Gold imports are already being taxed at 8 per cent and this has started telling with increasing reports smuggled gold being intercepted at airports.

Reduction in duty in the 1990s, had virtually killed gold smuggling. However, a recent increase in duty on gold from 6 to 8 per cent is being seen as a cause for increased smuggling.

More common sense decisions could save the day for the Congress-led government.

One simple policy prescription which the government is believed toying with is allowing upto 49 per cent FDI in most sectors which are security non-sensitive without the mandatory clearance by foreign investment boards.

India’s Defence Budget: The Chinese Challenge

Ask the dragon why she’s crawling with eight legs,

And she says, donno, I’m just doing it.

…

Ask a girl why she’s dancing in the wind,
And this is what she says:

Ask an elephant why he’s raising his trunk,
And he says, donno, I’m just doing it.

…

–      from the lyrics `Ask The Dragon’  by Yoko Ono

Just days after India announced a $ 37.4 billion defence budget for the year 2013-2014, China came out with its own official defence budget figures – at $ 119 billion, some three times its southern neighbour’s.

As late as 2000, India's budget for its armed forces at $15.9 billion more or less matched China’s officially given out figures. However, in reality even then the actual Chinese spending was estimated at three times India’s.

Today, the real Chinese defence budget is believed by many, to be nearer 4-5 times India’s. India’s defence budget rose by just 5 per cent, a sign of the difficult economic times the world and India is going through. India’s $ 1.9 trillion economy grew at its decadal low of 5 per cent, its inflation rate rose worryingly and its current account deficit or the difference between the foreign exchange earned by a country and spent by it, breached self-set limits.

However, the real difference is not just in the money figures which the two Asian rivals have put out, but in the way India and China will be spending that money.

India will continue to spend most of its money on its Army with 99,708 crore or 49 per cent of the defence budget, earmarked for the 1.2 million strong land force. Air force will get the next big chunk of money at Rs 57,503 crore. Navy the smallest service will receive Rs 36,343 crore, while the Defence Research and Development Organisation will get a paltry Rs 10,610  crore and India’s Ordinance Factories complex a tiny Rs 509 crore.

Despite a scandal brewing over purchase of VIP helicopters, the Air Force has become the most favoured wing of the defence ministry – with its share of the defence budget going up from 24.9 per cent to 28.2 per cent. Not only that, its allocation for modernisation has gone up by a whopping 30 per cent from Rs 28,504 crore for 2011-2012 to Rs 37049 crore for 2012-2013.

The Air force of course will be going to town with a huge shopping list and needs that money. Among other things, it needs to sign a contract to buy 126 French Rafale fighters, sometime later this calendar year. It also plans to sign deals to buy heavy lift CH-47F Chinook heavy lift helicopters, Boeing Apache longbow attack helicopters and Airbus tanker transporters.

The favour to the air force has meant the Navy and Army’s modernisation plans have received cuts by 2.8 per cent and 3.5 per cent respectively. Last year, some 31 per cent of the Rs 79,198 crore capital budget for the defence forces had been earmarked for Indian Navy, hitherto the most neglected of India’s armed forces as part of a strategy to build up India’s outreach to partly protect sea lanes used by its merchantmen, especially energy tankers which feed India’s growing appetite for crude oil and partly to counter China’s growing naval presence.

However, the real problem with Indian defence spending is that relies heavily on foreign weapon purchases – compared to the Chinese who depend more on domestic manufacture. This means India gets a) fewer aircraft or tanks or weapons for the money both countries spend. b) Their spares have to be continuously bought and c) there is always a fear of disruption of supplies because of the vagaries of foreign relations.

While India has been busy buying the C 130J Hercules heavy lift aircraft, China has been busy producing its Y-20 heavy lift aircraft, with a maximum payload of 66 tonnes and capable of flying 4,400 km. The aircraft is based on Russia’s workhorse – the Ilyushin series and still uses old Russian engines and is certainly not as sophisticated as the US built  Hercules. However, nevertheless, its functional – does the same job and costs a fraction of Hercules’s price and is paid for in China’s own currency.

C 130 J Hercules being inducted in the IAF

Similarly, while India hankers for Chinook helicopters, the Chinese have come out with the 13.8-ton AC313 heavy lift helicopter. Unveiled last year, this aircraft is a larger and modified version of the 7-ton Zhi-8 medium transport helicopter that is a close copy of the French SA 321 Super Frelon. China had bought 13 of the French helicopters in the 1970s and at least one was reportedly disassembled for study and reverse-engineering.

 India, despite its head-start in aircraft manufacturing, having started making aircraft in the 1940s and jet engines in the 1950s, has proved itself incapable of even reverse engineering the many makes of aircraft it has bought and makes under license.

The story with tanks is no different. Despite grand announcements, the Arjun main battle tank has proven to be a flop story. Just under 50 of them have been built and no regiment equipped with these home-made tanks. India still depends on old Russian T-72s and the slightly `newer’ T-90s.

Despite having bought the 155 mm  Bofors howitzer guns in the late 1980s along with the technology, domestic politics, saw projects to build them locally shelved for decades. This year, at long last the Indian army has placed orders with Ordinance Factory Board to build 114 of them with slight modifications.

Bofors Gun in action at Kargil

Contrast this with the Chinese model. Besides, the heavy lift aircraft, Beijing has succesfully reverse engineered Russia’s Sukhoi aircraft and America’s stealth technology. Its J-20 and J-31 aircraft may be doubted by western analysts, but like most Chinese take-aways these advanced fighter jets are likely to be value for money products, though not as advanced as their western counterparts.

Just one and half decade back, China like India, was a major importer of weapons. However, in the last decade and a half, it very consciously worked to `catch up’. It reverse engineered British missiles, worked on Soviet era fighter jet platforms to work in improvements. It used students and scientists sent abroad on exchange programmes to spy on rival systems, a few of which were openly available, some commercially buyable.  It hired out-of-work Soviet weapons scientists and specialists and restructured its own defence research and production labyrinths. 
The Middle Kingdom has also strategised by coming up with innovative ideas to take on its arch rival – the US – whose military size, strength and spending - dwarfs everyone else. Beijing is believed experimenting with `bugs’ in telecom and power equipment which could cause power and communication systems in client countries to collapse. It has again reportedly trained armies of hackers who can play havoc with computer based command and control systems in a wide range of areas and is perfecting satellite warfare capabilities to take out the communication lines of the enemy. It has also reportedly strategised on using low cost, small yet very fast strike craft to disable enemy fleets including aircraft carrier groups.

China's J-31 stealth fighter

Despite this defence-industrial complex model next door, India’s focus on indigenisation is more than missing in its annual budget. It has yet to fully realise the potential for indigenous manufacture of high tech weapons or for innovating new attack systems which could be cheap or involve less high tech inputs.  Unlike the west, the private sector is hardly involved in manufacturing weapon systems in India. India had allotted just under Rs 90 crore in 2012-2013 for projects under which Indian companies can design and make advanced defence equipment. In the year 2013-14, that amount has been cut down to a measarable Rs 1 crore, possibly because the amount set aside for 2013 has been returned unused!

The private sector too has proved itself as yet, incapable of meeting the challenges required to make quality platforms needed by the armed forces. The Mahindra& Mahindra manufactured `Axe’ jeep touted as India’s answer for a Future Infantry Combat Vehicle failed its test and army officers still swear the best vehicle they have used is the old, fuel-guzzling 1960s Jonga. 

However, this could well change. Indian private industry as lethargic as India’s public sector in doing meaningful research or development, has started using its new found cash reserves to buy up foreign firms in technology areas where India needs to catch up. India’s Tata group whose cars such as Indica and Nano weren’t perceived to be among the best technologically, has in the last decade bought Jaguar-LandRover, giving it access to world class technology. Mahindras have similarly bought Korean car-maker Ssangyong. Its cars are not considered great in terms of design but are grudgingly accepted as value for money, robust vehicles. 

A joint venture Memorandum of understanding inked earlier this year, between France’s Dassault Aviation and Reliance Industries Ltd will build components and eventually assemble Falcon business jets in India. These are signs of what may come about. If India can use this new found confidence in its private sector and builds up on the momentum by getting universities to work in tandem with ordinance factories and the private sector, its defence budget can literally earn more bang for the rupee in the years ahead.