What is Exchange Rate Management? in English.....

What is Exchange Rate Management?

Over the last six decades since independence the exchange rate system in India has transited from fixed exchange rate regime where the Indian Rupee was pegged to the UK Pound to a basket of currencies during the 1970s and 1980s and eventually to the present form of market determined exchange rate regime since 1993.

(i) Par Value System (1974-1971): After Independence Indian followed the Par Value System’ whereby the rupee’s external par value was fixed with gold and UK pound sterling. This system was followed up to 1966 when the rupee was devalued by 36 percent.

(ii) Pegged Regime (1971-1992): India pegged its currency to the US dollar (1971-1991) and to pound (1971-75). Following the breakdown of Breton Woods system, the value of pound collapsed, and India witnessed misalignment of the rupee. To overcome the pressure of devaluation India pegged its currency to a basket of currencies. During this period, the exchange rate was officially determined by the RBI within a nominal band of +/- 5 percent of the weighted average of a basket of currencies of India’s major trading partners.

(iii) The period since 1991: The transition to market-based exchange rate was in response to the BOP crisis of 1991. As a first step towards transition, India introduces partial convertibility of rupee in 1992-93 under LERMS.

(iv) Liberalised Exchange Rate Management System (LERMS): The LERMS involved partial convertibility of rupee. Under this system, India followed a dual exchange rate policy, where 40 percent of the exchange rate were to be converted at the official exchange rate and the remaining 60 percent were to be converted at the market-based exchange rate. The exchange rate converted at the official rate were to be used for essential imports like crude, oil, fertilizers, life savings drugs etc. All other imports should be financed at the market-based exchange rate.

(v) Market-Based Exchange rate Regime (1993- till present): The LERMS was a transitional mechanism to provide stability during the crisis period. Once the stability is achieved, India transited from LERMS to a full flash market exchange rate system. As a result since 1993, exchange rate fluctuations are marker determined. In the 1994 budget, 60:40 ratio was removed, and 100 percent conversion at market-based rate was allowed for all goods and capital movements.

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