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Indian Rupee rise or fall is primarily due to demand and supply of this currency in the market. Liberalization has essentially allowed investments by foreign companies (in the form of FDI) and foreign investor (in the form of FII).
Initially, we wanted inflow of dollars as our Balance of Payment (BOP) was not in good shape. However, over a period of time, we have managed to attract foreign fund inflow in match to that of China. In recent times, Indian economy is facing the problem of surplus for the first time. Then, we should be happy about it, as we have successfully solved the problem of BOP. But unfortunately, its not so simple, as rise in foreign fund inflow (in the form of FII or FDI) will impact our currency valuation, which further affects Indian economy as a whole, and the job of RBI is to take care of the turmoil and keep balance in the system.
So we have gone though a couple of issues here which would help us in analyzing this issue in a better manner. It is seen that the following would be the issues primarily that would be getting affected: -
FDI Vs FII
It is most important to understand distinction between these two. When FDI comes in the country then it is essentially in the form of long term investment which will not only bring funds but create job opportunity too. Whereas when FII brings fund in the country, it is essentially for short term and primarily invested in capital markets but will not lead to any other economic activity like job creation, etc. It is clear from this as to which mode of fund flow is intended and why. However, some believe capital markets are indications of how good or well the development is happening in the country.
Fluctuation in Rupee due investment in Dollar (FII or FDI)
It is seen that for every dollar invested, the equivalent amount of rupee (either Rs. 45 or Rs. 40) is pumped in the system. As a result of this, increase in fund flow in India results in rupee appreciation. This appreciation in rupee can be curtailed by RBI by using a method called as MSS (Market Stabilization Scheme) which helps in sucking-up excess liquidity from the system.
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Prof. Suyash Bhatt is B.Tech. (Computers) and Master's in Management Studies from Mumbai University with specialization in Finance. He is also NCFM Certified Trainer. Currently, he is working as Faculty for Finance at K. J. Somaiya Institute of Management Studies, Mumbai.
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