Finding resolution to tariff issues with U.S., the only way to address exchange rate issues: C. Rangarajan

C. Rangarajan, a distinguished economist and former Governor of the Reserve Bank of India (RBI), recently delivered a significant address at the Madras Institute of Development Studies (MIDS) Founder’s Day Lecture, held at the Anna Centenary Library. His central argument, that resolving tariff issues with the U.S. is the only effective way to address exchange rate issues, underscores the complex interplay between international trade policies and a nation's currency stability. This statement is particularly pertinent in an era marked by rising protectionism and global trade tensions.

To understand Rangarajan's assertion, it's crucial to grasp the background context. Tariffs are taxes imposed on imported goods and services. They are typically used by governments to protect domestic industries, generate revenue, or exert political pressure. Exchange rates, on the other hand, represent the value of one currency in relation to another. For India, the exchange rate of the Rupee against the U.S. Dollar (USD) is particularly critical, given the U.S. is one of its largest trading partners. When a country imposes tariffs on another's goods, it makes those goods more expensive, potentially reducing demand and affecting the exporting country's trade balance. A decline in exports can reduce the inflow of foreign currency, putting downward pressure on the exporting country's currency, leading to depreciation.

India and the U.S. have had several trade disputes over the years. A notable instance was in 2019 when the U.S. revoked India's designation as a beneficiary under its Generalized System of Preferences (GSP) program, which had allowed duty-free entry for certain Indian products. This move, stemming from disagreements over market access for U.S. products in India, effectively imposed higher tariffs on Indian exports to the U.S., impacting sectors like textiles, agriculture, and engineering goods. Such actions directly affect India's export earnings and, consequently, the demand for the Indian Rupee in international markets. A reduced demand for the Rupee, coupled with continued demand for dollars for imports, can lead to Rupee depreciation.

Key stakeholders in this scenario include the Indian government (Ministry of Commerce and Industry, Ministry of Finance), the Reserve Bank of India, Indian exporters and importers, and their counterparts in the United States (the U.S. government, particularly the Office of the U.S. Trade Representative - USTR, and American businesses). The Indian government's role is to formulate trade policy and negotiate with trading partners, while the RBI is responsible for monetary policy and managing the country's foreign exchange reserves, intervening in the market to stabilize the Rupee when necessary. Exporters and importers are directly affected by tariffs and exchange rate fluctuations, which impact their profitability and competitiveness.

This issue matters profoundly for India. A stable and competitive exchange rate is vital for India's economic health. Rupee depreciation, while making exports cheaper and potentially more competitive, also makes imports more expensive, leading to imported inflation (e.g., higher oil prices). This can increase the current account deficit and put pressure on foreign exchange reserves. Rangarajan's argument highlights that simply managing the exchange rate through monetary policy tools (like interest rate changes or direct intervention) might be insufficient if the underlying trade imbalances, exacerbated by tariffs, are not addressed. Resolving tariff disputes would remove artificial barriers to Indian exports, boost foreign currency earnings, and naturally support the Rupee's value, reducing the need for the RBI to expend its reserves on market intervention.

Historically, India's trade policy has evolved significantly, particularly after the economic liberalization of 1991, a period during which C. Rangarajan served as RBI Governor (1992-1997). During his tenure, India transitioned from a largely closed economy to one more integrated with global trade, making exchange rate management increasingly complex. The U.S. has consistently been a crucial trade and investment partner for India, and maintaining a robust trade relationship free from tariff barriers is essential for India's growth trajectory.

From a constitutional perspective, trade and currency matters fall under the purview of the Union List in the Seventh Schedule of the Indian Constitution. Entry 41 deals with 'Currency, coinage and legal tender; foreign exchange,' while Entry 42 covers 'Foreign trade; all import and export across customs frontiers; inter-state trade and commerce.' This empowers the Parliament to legislate on these subjects. The Foreign Trade (Development and Regulation) Act, 1992, and the Reserve Bank of India Act, 1934, are key statutory instruments governing India's foreign trade and monetary policy, respectively, including exchange rate management. India's Foreign Trade Policy, updated periodically, outlines the government's strategy for international trade.

Looking ahead, the future implications are significant. Rangarajan's advice suggests that India should prioritize diplomatic engagement and trade negotiations with the U.S. to resolve outstanding tariff issues. A resolution would not only stabilize the Rupee but also provide a predictable environment for Indian businesses, supporting initiatives like 'Make in India' and boosting export-led growth. Furthermore, it underscores the need for India to continue diversifying its export markets and strengthening its domestic manufacturing base to reduce vulnerability to protectionist measures from any single trading partner. The global trend towards regional trade blocs and bilateral agreements also means India must strategically navigate these dynamics to secure its economic interests and maintain currency stability.