What are the reasons for recent depreciation in rupee (2018)? (i) FPI outflows (ii) Fiscal deficit blues (iii) Trade war between USA and China (iv) Crude oil price boiling Choose the correct option:

Question

Accepted Answer

The correct option is 4: (i), (ii), (iii) and (iv):

Currency depreciation occurs when the value of a nation's currency falls relative to other currencies, often due to an increased supply of the local currency or decreased demand for it in the global foreign exchange market. All four factors listed were significant contributors to the Indian Rupee's sharp depreciation in 2018. **(i) FPI outflows** (Foreign Portfolio Investment outflows) directly reduce the demand for the rupee as foreign investors sell Indian assets (stocks, bonds) and convert the proceeds back into their home currencies (like USD), increasing the rupee's supply and causing it to fall. **(ii) Fiscal deficit blues** refer to the government's excessive spending over revenue, leading to high government borrowing. This raises inflation expectations and concerns about the nation's financial health, making foreign investments riskier and depressing the currency's value. **(iv) Crude oil price boiling** (high crude oil prices) is particularly damaging to the rupee, as India imports over 80% of its crude oil. Higher prices mean India needs more US dollars to pay for the same amount of oil, drastically increasing the country's import bill and Current Account Deficit (CAD). This high demand for USD pushes the rupee down. Furthermore, **(iii) Trade war between USA and China** created global economic uncertainty, prompting international investors to pull capital out of emerging markets like India and invest in safer assets (like US Treasury bonds). This large-scale risk aversion accelerated the FPI outflows, further pressuring the rupee. Since all four factors contributed significantly, option (iv) is the most comprehensive and correct choice.

The incorrect option is 1: Only (iv):
While high crude oil prices were arguably the biggest direct factor due to India's high import dependency, they were not the only reason. This option ignores the significant domestic and international financial pressures that were simultaneously at play in 2018.

The incorrect option is 2: Both (ii) and (iv):
This option correctly identifies domestic government finances (fiscal deficit) and the commodity price shock (crude oil) as reasons. However, it fails to include the substantial outflow of Foreign Portfolio Investment (FPI) and the global risk environment created by the US-China trade tensions, which were crucial drivers of rupee weakness.

The incorrect option is 3: Only (i), (ii) and (iv):
This choice is very close but misses one critical external factor: the US-China trade war. Global economic risks, like trade wars, cause capital flight from emerging markets, and ignoring this systemic shock provides an incomplete picture of the overall pressure the rupee faced in that period.