China surprise move to devalue its currency (Renminbi) by over 4.5% is likely to trigger an ugly currency war with similar moves expected by other exports-dependent economies as a means to capture a larger pie of the shrinking global trade. The probability of this war escalating "could push the world towards another crisis," warns Diana Choyleva, head of Macroeconomic Research with Lombard Street Research. If the devaluation remains mild then its impact on India would not be much, "but if it does escalate, then it would obviously affect India's trade competitiveness," says D.K. Joshi, chief economist with CRISIL. India would then have to erect tariff barriers to discourage cheaper Chinese imports to protect its domestic industries, especially in the textile and steel sectors.
China's move scared the capital market all across the globe plunging the rupee to Rs 65 versus one dollar, a depreciation of over 2%. "This would affect all Indian corporates who have borrowed in dollars to take advantage of lower rates prevailing abroad," says Murthy Nagarajan, head-fixed income with Quantum AMC.
China's weakening economic growth needs a weaker currency to boosts its exports as a significant portion of the Chinese GDP comes from its colossal exports. However, in times of falling global demand, global exports too have fallen (by 6%) during the past ten months. "China is the world's largest exporter and its exports formed 13.7% of the global exports," says an India Ratings report and therefore its devaluation move looks more pragmatic. Quote On
India should better prepare itself to boost its exports as there is a high level of overlap in what China and India export like clothing, gems and jewellery, base metal and machinery. Moreover, the EU, US, Hong Kong, Japan and South Korea form key export markets for both China and India. "This high overlap in the export markets and also in export items highlights the threat Indian exporters face from China," says the India Ratings report.
Analysts do not see a high probability of the RBI intervening in support of the rupee. It would intervene to reduce volatility but would shy away from giving direction to India's exchange rate policy. India would have to look for other channels to regain its competitiveness like lower inflation and the consequent reduction in interest rates. With retail inflation coming down, the hopes for interest rate cuts are becoming more genuine. But there are still many areas where India needs to address its shortcomings "as currency competitiveness cannot compensate the lack of competitiveness in other areas," says Joshi.