Understanding the Fluctuations of the INR-USD exchange rate is essential for grasping how global economic dynamics affect India and its currency. The exchange rate reflects how much one currency is worth in terms of another, and in this case, it indicates how many Indian Rupees (INR) are needed to purchase one US Dollar (USD). This article will explore the basics of these fluctuations, the role of forex markets, and the need for India to establish a sovereign wealth fund.
Exchange rates fluctuate due to various factors that influence the demand and supply of currencies in the global market.
Here are some key elements that affect the INR-USD exchange rate:
Inflation – Inflation impacts purchasing power. If India experiences higher inflation than the US, the value of the INR may decrease relative to the USD. This means that it takes more rupees to buy dollars over time.
Interest Rates – Central banks set interest rates, which can attract foreign investment. Higher interest rates in India compared to the US could lead to an appreciation of the INR as foreign investors seek better returns. And vice versa.
Political Stability – Political events and stability can significantly impact investor confidence. A stable political environment typically strengthens a currency, while instability may lead to depreciation.
Current Account Deficit – If India imports more than it exports, it creates a demand for foreign currencies (like USD), which can weaken the INR. A widening current account deficit puts additional pressure on the rupee.
Global Economic Conditions – Events such as changes in oil prices or economic crises can lead to fluctuations in currency values. For instance, rising oil prices increase India’s import costs, further straining the rupee.
Speculation in Currency or Forex Markets – The foreign exchange market is a global marketplace where currencies can be traded 24/7 by various participants, including banks, corporations, and individual traders (as long as it is allowed legally in their domain of operation). Quite often, speculation is a significant driving force in the forex markets. Traders often buy or sell currencies based on anticipated future movements rather than current or underlying economic conditions. For example, if traders believe that India’s economy will grow due to favorable government policies or international relations, they may buy INR in anticipation of its appreciation against the USD. These days, AI forex robots play a crucial role in currency trading by automating the trading process, and enabling rapid execution of trades based on real-time market analysis. This allows traders to efficiently capitalize on market opportunities 24/7. However, due to this increased role of robots, once in a while, the high liquidity in forex markets can allow for substantial transactions, thereby influencing exchange rates significantly in the short term. Thus, understanding forex dynamics is essential for anyone looking to comprehend how currencies like INR and USD interact over long periods of time.
Historically, the USD-INR exchange rate has shown a downward trend where increasingly, the Rupee has depreciated against the dollar. So, while in the late 70s, one USD was approximately Rs 7-8, today in early 2025, one dollar costs around Rs 86.
Talking of forex, let’s not forget another aspect.
India’s Forex Reserves have been growing steadily over the years.
It very recently crossed $650 billion (though it has actually dropped a little in recent months). This recent decline is a combination of both the revaluation of assets and the RBI‘s ongoing interventions to stabilize the rupee, which has been under significant strain and has recently breached Rs 86 to $1.
India now has the 4th largest foreign exchange reserve in the world after China ($3.57 Trillion), Japan ($ 1.24 Trillion) and Switzerland ($ 0.95 Trillion or 952 Billion).
For a country like India, having a big reserve provides the country with enough firepower to fight against future currency depreciation. And that is important for us as it helps minimize vulnerability to external and global crisis situations. If our currency Rupee (INR) suddenly starts depreciating against the US Dollar, then the RBI can sell its dollar reserves and buy the local currency in order to stop the depreciation to some extent. And that is exactly what RBI is doing currently and it is putting downward pressure on Rupee.
There is also a case, though not a very strong one, for India to have its own Sovereign Wealth Fund (or SWF). I think that we have reached a stage where a small part of our forex reserves (of $650 Billion) can now be used to set up a Sovereign Wealth Fund. The money can be deployed strategically for the long term. But I think its time is yet to come.