The recent sharp movement of rupee-dollar exchange rate is part of the turmoil in world markets, which are currently witnessing large currency flows. In coming months, world economic conditions may lead to a further increase in cross-border flows, and currency markets may see even sharper movements. Now that India is open in many aspects, currency volatility will have an impact on many dimensions of economic activity. The Reserve Bank of India will come under pressure to intervene in currency markets by those who stand to lose. Most recently, we have seen pressure on the RBI to prevent rupee depreciation. There are two big losers on account of depreciation. First, importers would now have to pay more for the same dollar value of imports. To some extent, it is possible for importers to hedge their currency risk. However, since hedging is costly, it is often incomplete, and sharp depreciations lead to a sudden increase in costs of importing.
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