NEER and REER in Freefall: Rupee Depreciates By 9.8% in Less Than a Year
The Real Effective Exchange Rate (REER) of the Indian rupee plunged from 108.06 in November 2024 to 97.47 by October 2025 — a sharp correction of 9.8% in just eleven months, putting it firmly into "undervalued" territory. The Nominal Effective Exchange Rate (NEER), meanwhile, fell by 6.8% during the same period, reflecting broader depreciation against a 40-currency basket. Coupled with the rupee’s weakening against the dollar, euro, yen, and even the Chinese yuan (from ₹11.66 to ₹12.63), this nominal depreciation points to deeper structural cracks in India’s currency dynamics despite inflation control breakthroughs.
Breaking the Pattern: Why This Decline Matters More
For years, exchange rate fluctuations have danced to the tune of capital flows, trade imbalances, and macroeconomic indicators. But what makes the current depreciation extraordinary is its timing and context. India’s Consumer Price Inflation (CPI) stood at a mere 0.25% in October 2025 — far below global levels, including the U.S. (3%), Euro Area (2.1%), and Japan (3%). Historically, mild inflation positions countries for currency stability. Yet the rupee’s decline bucks that precedent, implying non-inflationary drivers at play: persistent trade deficits (+$25 billion) fueled by oil imports and foreign investor pullbacks amid another Federal Reserve rate hike.
Compounding this are geopolitical shocks. The ripple effects of the conflict in Eastern Europe, alongside U.S.-China decoupling risks, have sparked global supply chain recalibrations — but not necessarily in directions favorable to India. The undervalued rupee theoretically boosts export competitiveness, but sluggish external demand and chronic structural deficits dilute these gains.
The Machinery of Exchange Rate Management: RBI, IMF, and Crawling Regimes
In a notable reclassification on November 26, 2025, the International Monetary Fund (IMF) labeled India’s exchange rate policy as a "crawl-like arrangement." Under this framework, currency value is permitted to adjust within a predefined band of +/- 2%. This marks a shift from the ‘stabilized arrangement’ introduced in 2023 and reflects the Reserve Bank of India (RBI)’s evolving stance. The central bank, instead of aggressively defending the rupee, now intervenes sporadically — aiming to ease volatility without arresting downward trends outright.
As of now, RBI’s intervention has drawn forex reserves down to $581 billion from $635 billion in early 2025, limiting its capacity for further moderation. Its stance seems deliberately calibrated: subdued inflation reduces the urgency for rupee stabilization, while undervaluation supports export competitiveness amidst global headwinds. However, this crawl-like flexibility introduces long-term risks — particularly inflationary pressures from pricier imports and credibility challenges should overshooting occur beyond the band.
The Data Behind the Headlines: Reality Tests Official Claims
Official narratives stress potential benefits for exporters from a weaker rupee. But the NEER and REER trends tell a more conflicted story. Despite REER-induced undervaluation potentially boosting medium-term competitiveness, India’s fundamental export structure remains plagued by low value addition. Crude petroleum and low-tech goods dominate trade baskets. Evidence from October 2025 reveals that exports grew only 4.5% year-on-year — far below the pace needed to balance 14% import growth. This imbalance, combined with crude oil prices hitting $88/barrel, challenges any straightforward "export-led recovery." That optimism is misleading.
Furthermore, foreign capital outflows exacerbate volatility. The latest data from NSDL cited a net withdrawal of ₹12,900 crore by Foreign Portfolio Investors (FPIs) from equity and debt markets in November 2025, signaling wavering confidence in India’s perceived stability. Combine this with the global post-pandemic tightening cycle, where rising U.S. interest rates lure capital away from emerging markets like India, and it becomes clear: depreciation is less a policy outcome than a vulnerability exposed.
Unanswered Questions: What Lies Beneath?
The critical tension remains unresolved — does undervaluation serve India in the long term, or merely paper over structural weaknesses? Capital flow volatility cannot simply be managed through sporadic interventions or reclassifications; systemic reliance on commodity-heavy imports makes the rupee profoundly vulnerable to external shocks. Had there been substantive diversification in trade components (e.g., higher-end electronics manufacturing incentives or renewable energy progress), price competitiveness would find real footholds. Instead, we see incrementalism in addressing the high-tech export deficit.
A second friction point lies in India’s monetary architecture itself. While the RBI may justify crawling as flexibility, the potential inflationary consequences of prolonged depreciation complicate its broader policy goals. Imported inflation — especially in sectors like electronics (₹6 lakh crore annual imports) — will intersect awkwardly with fiscal tightening cycles for the government.
Comparative Anchor: What South Korea Learned in 2018
South Korea’s currency trajectory in 2018 offers a pointed contrast. With the won depreciating against the dollar amidst U.S. Federal Reserve rate hikes, Seoul pursued aggressive industry-specific incentives for high-tech exports like semiconductors and EV batteries, avoiding dependence on raw material-led trade balances. Combined with targeted exchange interventions, South Korea’s strategy minimized external demand fluctuations while capitalizing on undervaluation. India, by comparison, risks trading robustness for short-term relief; export competitiveness here rests on fragile ground, absent meaningful industrial repositioning.
Practice Questions for UPSC
Prelims Practice Questions
- Statement 1: The depreciation of the rupee is solely driven by domestic inflationary pressures.
- Statement 2: The Indian rupee has depreciated against multiple foreign currencies.
- Statement 3: The IMF's classification of India's exchange rate policy reflects a shift towards a more stabilized system.
Which of the above statements is/are correct?
- Statement 1: The RBI intervenes consistently to stabilize the rupee against major currencies.
- Statement 2: The RBI has shifted to a crawl-like arrangement allowing limited currency adjustments.
- Statement 3: The RBI's interventions have significantly increased foreign exchange reserves.
Which of the above statements is/are correct?
Frequently Asked Questions
What implications does the depreciation of the Indian rupee have for its export sector?
The depreciation of the rupee can theoretically enhance export competitiveness due to a lower currency value, making exports cheaper for foreign buyers. However, India's export structure, which is dominated by low value-added products like crude petroleum, limits the potential benefits, especially when sluggish external demand persists.
Why was the reclassification of India's exchange rate policy by the IMF significant?
The IMF's reclassification of India's exchange rate policy to a 'crawl-like arrangement' indicates a shift towards allowing more flexibility for currency adjustment within a set band. This reinforces the Reserve Bank of India's nuanced approach to managing the rupee, balancing between stabilizing the currency and addressing underlying structural issues.
What factors are contributing to the current depreciation of the rupee outside of domestic inflation rates?
Factors contributing to the rupee's depreciation include persistent trade deficits, particularly driven by oil imports, and capital outflows due to increased U.S. interest rates. Additionally, geopolitical shocks and their impact on global supply chains have exacerbated the rupee's undervaluation.
How has foreign capital outflow influenced the volatility of the Indian rupee?
The outflow of foreign capital, exemplified by net withdrawals by Foreign Portfolio Investors, has created substantial pressure on the rupee, contributing to its volatility. As investor confidence wanes amid global economic uncertainty, the Indian currency faces even greater challenges in maintaining stability.
What are the long-term risks associated with the RBI's current approach to rupee depreciation?
The RBI's approach introduces long-term risks such as potential inflationary pressures from more expensive imports due to the depreciated currency. Additionally, there are concerns regarding the credibility of India's monetary policy if the rupee continues to overshoot the defined exchange rate band.
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