How the mighty have fallen! Look where the supposedly world-beating BRIC countries are today: Brazil is mired in protests, China's growth is slowing, Russia is addicted to self-destructive spy games, and India's currency is at an all-time low. Of the four, India has the brightest prospects for growth ahead, so why has the rupee taken such a dip?
Even though China is growing faster right now, India has many more years of rapid expansion ahead simply because it hasn't urbanized or adopted new technologies to the same extent. You'd think foreign investors would be desperate to get in on the ground floor of this long-term boom, but naturally they're more fickle -- and less patient -- than that. And since the value of the rupee in global markets depends on their demand as well as its supply, you have to consider both to understand what's happening.
On the demand side, the key is to think about why people might want to exchange other currencies for rupees. Buying anything from India -- goods, services, financial assets -- can require rupees. When demand for any of these things rises, so does demand for rupees. Of course, when the rupee gains value, anything bought with rupees becomes more expensive for foreigners, so demand may equilibrate on its own.
That hasn't happened yet for Indian assets. In April 2011, the International Monetary Fund forecast that India's economy would grow by a total of 37 percent from 2013 through 2016. The fund's latest prediction, updated last month from the April 2013 figures, is for growth of just 28 percent in the same four-year period. It goes without saying that less potential for growth means less interest from foreign investors.
At the same time as India's growth forecasts were falling, other markets were becoming more attractive. A few years ago, investors frustrated with the slow recoveries in established markets might have taken a risk in India. Now, with a backdrop of somewhat greater stability, investors are returning to the advanced economies to hunt for bargains and ride the cresting wave. Not surprisingly, credit is tougher to come by in India; the yield on its government bonds has hit a five-year high.
The jump in bond yields may also have to do with expectations for inflation, which is another concern in India. As prices climb, the value of the rupee in real terms falls, and investors won't give up as much of their own currencies to buy it. Consumer prices rose by only 3.8 percent in 2004, but the rate quickened in every subsequent year through 2010, when it hit 12 percent, one of the highest rates in the world.