Reer To Focus On A Wider Basket Of Indicators

The proposed real effective exchange rate (REER) calculated by Reserve Bank of India may take into account a panel of economic indicators such as differential rates of productivity growth, changes in terms of trade, tariff and non-tariff reforms, differential interest rates and differences in the pace and depth of financial sector reforms rather than changes in international competitiveness alone.

These measures would need to take into account developments in the capital account of the balance of payment, besides structural and institutional changes in the economy.

The RBI has pointed out that the adoption of a real exchange rate rule, involving continuous adjustment of the nominal exchange rate, to achieve a neutral REER contains the risk of inflation and macroeconomic instability.

 

The conduct of the exchange rate policy in 1996-97 was primarily guided by market conditions resulting from the contraction in the current account deficit to $3730 million and a surplus in the capital account of $10.525 billion, leading to an overall surplus of $ 5.818 billion (after meeting IMF payments of $ 977 million).

However, the good dollar supplies were not matched with enough demand causing the rupee to appreciate. To protect international competitiveness, the RBI intervened substantially, buying $ 7.801 billion (net) to prevent a rupee appreciation. Nevertheless, the trade based real effective exchange rate (REER) appreciated by 9.6 per cent by March 1997 over March 1993, and by 4.7 per cent in 1996-97. The nominal exchange rate was bound in a narrow range of Rs 35 to Rs 36 a dollar between May 1996 and June 1997 which insulated the economy from imported inflation and anchored expectations.

Forward premiums which were high in the first quarter of 1996-97 reflecting high short-term interest rates and expectations of a weak rupee, came down with restoration of exchange rate stability on a sustained basis for the rest of the year and moderation in short-term rates resulting from improved liquidity in the system, and settled in the six to eight per cent range.

Average monthly turnover in the foreign exchange market - an indicator of depth and liquidity of the market - rose moderately during 1996-97 against the high growth phase of 1993 to 1996.

The share of inter-bank transactions in total turnover continued to remain over 80 per cent.