By Kitdor H. Blah
Fiscal deficits and inflation are the primary drivers of currency depreciation. This has been the story of India from the 1970s up to the 1991 Balance of Payments crisis. India’s fiscal deficit was low in the 1970s, but increased in the 1980s. This deficit was financed by increasing the currency supply which caused inflation. When we compare the inflation of the US and India during the 1970s, India generally outpaced the US even though this was a period of high deficit and high inflation in the US. From the 1980s up to the 1991 crisis, India’s consistently inflation outpaced the US’s. Due to this high inflation trend, the purchasing power of the Rupee reduced in parity with the purchasing power of the Dollar and other currencies. Therefore our imports became costlier and our exports became more expensive due to higher cost of production. This depreciated the Rupee, meaning it was over-valued at the fixed exchange rate system. This made our imports even more expensive and exports non-competitive, which depleted our Dollar reserves to meet this deficit. This led to the Balance of Payments crisis where we had only enough reserves to pay for two weeks of imports and would have had to default on our debts. This crisis was averted by devaluing the currency, leaving the fixed exchange rate system and getting an emergency loan from the IMF in exchange for shipment of 67000 kg’s of our gold reserves and opening up the economy to globalization and privatization. Yet, despite all this, from 1991 to 2026, the Fiscal Deficit continued to remain high, our inflation consistently outpaced the US’s, and while the Dollar has depreciated by 122%, the Rupee has depreciated by almost 450%.
Lessons from history – Government Expansionism: The gold standard restricted governments’ ability to expand the currency supply to fund deficits. When nations incur a trade deficit, that deficit was paid in gold, and this reduced the volume of gold, which made it necessary to also reduce the amount of currency in circulation. The market auto-corrected this by causing both prices and wages to come down, thereby lowering the cost of production and making exports cheaper. The gold standard curtailed governments’ tendency to expand the currency to fund wars and industrial expansion. But ambitious governments would expand the currency supply to fund war and industrial expansion. This is how the gold standard ended. Similarly, the US’s expansionist policy ended the Bretton-Woods system. India’s ambitious plans to achieve industrialization and self reliance created the circumstances that led to increase in deficits and inflation. Recent expansionist trends include writing off corporate loans amounting to thousands of crores of rupees.
High import dependency: India’s industrialization ambitions meant that we did not develop our own supply chains to produce the intermediate raw materials and equipments needed to produce heavy industrial machinery, but we imported the heavy industrial machinery directly which incurred heavy expenditure. To achieve self reliance, high tariffs were imposed on foreign finished products, so we had to produce those products at home. Tariffs on raw materials were low, so domestic industries found it more profitable to import raw materials rather than to build supply chains to source them domestically. The State wanted to produce everything, so it regulated private industry. An expansionist and ambitious government resulted in fiscal deficits and inflation, which are the primary drivers of currency depreciation. These problems still persist. Our manufacturing sectors still have high dependency on imported raw materials. The import intensity of our manufacturing sector is more than 50%. Our major export sectors such as petroleum products, pharmaceuticals and electronics, have 40% to 80% dependency on imported raw materials. Thus, inflation and Rupee depreciation is a systemic cycle.
Rupee Depreciation is not due to the US-Iran war: On 28th May, 2025, 1 Dollar was equal to 86 Rupees. 6 months later, on 28th November, 1 Dollar was equal to 89 Rupees. 2 months later, on 28th February, 1 Dollar was equal to 91 Rupees. The Iran War started on 28th February and Crude Oil price started hiking from 1st week of March. On 28th March, 1 USD was equal to 94 Rupees. On 28th April, 1 Dollar was equal to 94 Rupees. As on the writing of this article, on 29th May, 2026, 1 Dollar is equal to 96 Rupees. So, as you can see, the sliding of the Rupee is not due to the US-Iran War. It is due to our monetary policy that failed to contain the depreciation of the Rupee.
According to a report by Kotak Mutual Fund published on 18th December, 2025, the average depreciation of the Rupee was 9% p.a. in the period 1990-2000, 5% p.a. in the period 2010-2020 and 4% p.a. in the period 2020-2025. However, the Rupee depreciated by 5% to 17% p.a. in the 11 month period from February to December, 2025. This is an average depreciation that is greater than the averages of the 3 decades from 1990 to 2020. This was before the US-Iran war, when the price of crude oil was averaging around 60 dollars per barrel.
Monetary Policy: Many economists from ex-RBI governor Raghuram Rajan to 16th Finance Commission Chairman Arvind Panagariya have shown that they will not lose sleep over the Rupee touching the 100 Dollar mark. The RBI lowered interest rates despite continued depreciation of the Rupee and exit of Foreign Institutional Investors. The RBI’s repo rate was 6.25% in February, 2025. This was lowered to 6% in April, 2025. It was again lowered to 5.50% in June, 2025. It was again lowered to 5.25% in December, 2025. This evidence shows that the RBI’s monetary policy is not to prevent the Rupee from depreciating, but only to control the fall. The theory is that a depreciating Rupee will make exports competitive. But this ignores the high dependency of our manufacturing sector on imported raw materials. This policy is coming to haunt the citizens now that the price of oil has gone up to more than 100 dollars per barrel. The monetary policy has affected farmers because of the rise of prices of fertilizers and pesticides which depend on imported raw materials, but it has been beneficial to exporters that earn in dollars, such as IT service providers.
Fiscal Policy: It is unfortunate that when the price of crude oil dropped from 100 dollars per barrel to 52 dollars per barrel in 2014-15, and to 44 dollars per barrel in 2016, the government in these same years increased the Excuse Duty from Rs. 9.48/litre to Rs. 12.5/litre, and to Rs. 21.48 per litre. Then, in 2020, when the price of crude oil dropped to $42 per barrel, the government increased the Excise Duty to Rs. 32/litre. The period from 2015 to 2021 was marked by low crude oil prices. Yet, the domestic oil prices were kept high and therefore, inflation was also kept high.
The revenue collection from the increase in Excise Duty during the period from 2016 to 2025-26, was more than Rs 28 lakh crore. Where did this revenue of more than Rs 28 lakh crore go? This revenue was at the cost of the citizens’ savings and purchasing power. Should that revenue not be used as a cushion to reduce domestic oil prices today, to reduce inflation, and create cascading effects on the Rupee? However, that money was used to pay for other “committed expenditure” such as development projects and for repayment of Oil Bonds that were issued during the UPA government. With regards to the repayment of Oil Bonds, the Minister of State in the Ministry of Petroleum and Natural Gas, in reply to question no. 3286 in the Lok Sabha on 12th March, 2026, stated that the total expenses made by the Government during the period 2014–2026 towards repayment of oil bonds, amounted to Rs. 2,36,368.28 crore (Principal: Rs. 1,34,423.17 crore, Interest: Rs. 1,01,945.11 crore). This payment of Oil Bonds of just Rs. 2.36 lakhs crore is not a reasonable answer as to where the Excuse Duty collection of Rs. 28 lakhs crore went. However, with regards to the revenue being used for other “committed expenditure,” the question which must then be asked is why was it that at the same time when the government increased the Excise Duty to Rs. 32/litre, the corporate tax was cut from 30% to 22% and 18% from 2019? Citizens were deprived of the benefits of low crude oil prices, but they have been urged to carry the burden of the falling rupee, the rise in crude oil prices and the strain on the Current Account Deficit.
Conclusion: High inflation and continued depreciation of the Rupee is a sign of an unhealthy economy, one that is growing at the cost of the purchasing power of the common man. Moreover, economic growth that is fueled by high inflation means that big corporations and big borrowers get to repay their long term loans at a lower value because prices have risen and their loan value has decreased. The floating exchange rate system fails to curtail the inflationary growth policy of the government and it creates a systemic need for currency depreciation. The high dependency of our manufacturing sector on imports also creates a Rupee depreciation-Inflation cycle under this system.
