Context: The International Monetary Fund (IMF) reported that the central bank excessively managed the Indian currency in the period December 2022 to October 2023. 

IMF Reclassifies India’s Exchange Rate Regime

• Low Movement: The rupee moved in the range of 81.04 per US dollar and 83.29, which is a band of 2.8%. In contrast, the Euro-Dollar rate moved in a band of 7.3% in the same period. 
• Exchange Rate Regime: India follows a Managed Floating Exchange Rate system, where the currency exchange rate is largely market-determined, and the central bank (RBI) steps in only to contain volatility in the exchange rate or market. 

• Recommendation: However, the IMF has said that Indian currency was excessively managed, making it a ‘stabilized arrangement’ exchange rate. 
  • The IMF has suggested moving towards a system that allows greater flexibility. 
  • Stabilised Arrangement is a situation where the Central Banks intervene frequently to ensure the band of movement of the exchange rate is narrow. 

About IMF

• Establishment: IMF was conceived in 1944 at the United Nations Bretton Woods Conference. 
• Objective: It is a global organization that works to achieve sustainable growth and prosperity for all. 
• Members: 190 countries, including India. 
• Headquarters: Washington DC, United States.
• Activity: Its major role are Policy Advice, Financial Assistance and Capacity Development. 
  • IMF financing helps member countries tackle balance of payments problems. Eg- Sri Lanka, Pakistan etc. 

However, experts are of the view that the IMF analysis is incorrect due to the following reasons: 

• Strengthening  Factors: 
• • India’s trade deficit averaged $20 billion a month, compared to averaged $22.1 billion a month last year. 
  • The Current Account Deficit at $27.3 billion, was almost half of the $53.5 billion previously. 
  • There was an increase in foreign portfolio investment (FPI) by around $45 billion. 
  • The forex reserves also saw a modest increase from $563 billion to $586 billion. .

Factors that can lead to an increase in volatility

• US Policy: An increase in the US Federal Reserve’s policy funds rate made the dollar stronger, which had negative effects on other currencies, including Indian Rupees. 

Types of Foreign Exchange Regime

• Fixed Exchange Rate: An exchange rate regime where the government or the central bank determines the country’s official exchange rate with another currency. For Example – The value of 1 Pound to INR in 1947 was fixed at 13.33. 
• Floating Exchange Rate: A system where the exchange rate is determined by the market forces of supply and demand.
• Managed Floating Rate: In this system, the country’s central bank occasionally intervenes to ensure the currency is not too volatile. India currently follows this model. 

To read more on EXCHANGE RATE SYSTEM

News Source: Live Mint