Interview with NRB governor, regarding the currency pegging and overvaluatioin of Nepali currency, The International Monetary Fund (IMF), in its December 2012 report, had said that the Nepali currency was overvalued in a range of nine to 16 per cent. With the latest depreciation have adjustments been made? Nepal is linked with the global economy through the Indian foreign exchange market. So whenever the IC depreciates or appreciates vis-à-vis convertible currencies, Nepali currency also follows the same path. That’s the consequence of pegging a currency to a big neighbour’s currency. We can debate on the merits and demerits of the peg system but I would like to say this is not the time to talk about changing the peg. It is totally irrelevant at the moment. Coming to your specific question, this is a bit technical issue. The real exchange rate is calculated through different methodologies, depending on price differences between countries, exchange rate movements and productivity level, among others. Another factor is the base year. The IMF report took the base year of some years ago. So first, we need to update that and second, we need to recalculate the new exchange rate level. You just mentioned it would be irrelevant to change or readjust the peg. Why is it so? I have been consistently viewing the Nepali exchange rate regime for the last 20 to 22 years. There was a time when I was advocating for delinking of the peg. It was in the mid-1990s when Nepal was growing faster than India, when Nepal’s prices were better than in India and when Nepal’s exports were performing better. At that time confidence on Nepali currency was better than IC. That would have been an ideal case for delinking the peg. Currently, people are talking about delinking the peg because they think the Nepali rupee is over-depreciated against the US dollar in nominal terms. But can they assure that the Nepali rupee will appreciate against the Indian rupee after delinking the peg? And if that does not happen, the situation would be much worse. But again if you really think our currency has appreciated against the Indian rupee — which cannot be the case because India is still a robust economy — it would mean we will be importing more and exporting less. This means our manufacturing would get less protection, and it would affect tourism and flow of Indian investment. So when both appreciation and depreciation are more damaging, it is better to stick to what we have. Yes, currency appreciation is not good for Nepal with a wide trade deficit. But we have not been able to reap the benefits from currency depreciation as our exports are not going up. That exactly is the issue we should be discussing at the moment. Nepal is currently importing many goods that could be produced at a cheaper rate here. This implies that industries which can substitute imports now have a better chance to survive. So we are not only looking at export promotion here but import substitution as well. Second, export-focused industries whose capacity are not fully utilised, like carpet, garment, handicraft and pashmina, now have a chance to perform better. So industries that are demanding export subsidy should realise that the market itself has provided ample incentives through exchange rate adjustment. But amidst energy shortage, labour problems and other structural constraints can industries grow? Yes, we have all the bottlenecks. But let’s be specific. First, goods exported to third countries are not energy-intensive. Second, many manufacturing processes could be outsourced, so labour issue is also not a big problem. The big problem perhaps is of transportation and other transaction costs which come in a hidden way. These are issues related to governance and can be managed in a short time. Are you defending the peg system because NRB is making short-term profit while selling dollars to purchase Indian currency because of IC’s depreciation? No, that is not the case. First of all we don’t take valuation gains and losses into account while calculating profit. Second, even if our currency depreciates or appreciates, we keep on buying Indian currency by selling dollars earned through remittance income because of widening trade deficit. So when you have to do something irrespective of exchange rate changes, you should not be counting on profit because we also suffer losses when IC depreciates because of pass-through effect of prices. In this regard, would it be appropriate to introduce a floating peg system and let the peg move within a band of a certain range, say, Rs 1.5 to Rs 1.7? There are certain risks in this as well. We first need to check whether cross-rate differences exist between IC-US dollar and Nepali currency-US dollar exchange rates, as they have to be aligned. Otherwise, arbitrage operations would flourish and people who want dollar could either resort to Indian or Nepali market. So we don’t have the luxury of keeping our cross rate difference at a wider margin. But even if you remain in a band and if it is beyond tolerable range of cross rate difference, then it won’t work. And keeping a very narrow band does not make much sense when you have misalignments of large quantity. That only calls for one-time significant discreet adjustment. One of the biggest concerns of currency depreciation is rising consumer prices. Can Nepal use exchange rate as a tool to control inflation as in Singapore? I used to do research in this area and one of the sections of my PhD thesis was on it. And my own finding says that exchange rate movement has a say on inflation. But this does not mean currency’s depreciation will lead the economy towards double-digit inflation because two-thirds of our imports are from India, where prices will marginally go up because of currency depreciation. But its net impact on Indian prices would be much lower than in Nepal, because Indian economy is closer and much bigger. In this context, we have to see how much IC depreciation impacts price situation in India and how strong the supply situation as a whole would be. But of course people who consume goods imported from third countries will face price hikes. Yet, it won’t affect all, as our consumer basket — which contains goods consumed by middle- and low-income groups — contains very little goods imported from third countries. - himalayan times
Posted on: Fri, 30 Aug 2013 06:01:00 +0000
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