Write a brief note on the exchange rate arrangement in India.

Write a brief note on the exchange rate arrangement in India. 

Ans. India’s exchange rate policy has evolved over time in line with the gradual opening up of the economy as part of the broader strategy of macroeconomic reforms and liberalization since the early 1990s. This change was also warranted by the consensus response of all major countries to excessive exchange rate fluctuations that accompanied the abolishment of fixed exchange rate system. The major changes in the exchange rate policy started with the implementation of the recommendations of the High Level Committee on Balance of Payments (Chairman: Dr. C. Rangarajan, 1993) to make the exchange rate market determined. The Expert Group on Foreign Exchange Markets in India (popularly known as Sodhani Committee, 1995) made several recommendations with respect to participants, trading, risk management as well as selective market intervention by the Reserve Bank to promote greater market development in an orderly fashion. Consequently, the period starting from January 1996 saw wide-ranging reforms in the Indian foreign exchange market. In essence, the exchange rate developments changed in side-by-side with the reform in the external sector of India. 

With the external sector reform, India stands considerably integrated with the rest of the world today in terms of increasing openness of the economy. As a result of calibrated and gradual capital account openness, the financial markets, particularly forex market, in India have also become increasingly integrated with the global network since 2003-04. This is reflected in the extent and magnitude of capital that has flown to India in recent years. Exchange rates exhibited considerable volatility and increased capital mobility has posed several challenges before the monetary authorities in managing exchange rates.