Tuesday, December 20, 2011

India's software sector and exchange rate fluctuations

In the second half of 2010, spurred by capital inflows, the rupee appreciated substantially against the dollar. Infosys CFO V Balakrishnan then called for urgent intervention by the RBI to stabilize the currency,

"The RBI should intervene right now to halt heavy speculative inflows through the FII (foreign institutional investments) route to reduce the currency volatility, which is currently ranging from 10-15 percent... With a trade deficit of $13 billion, such a wide currency fluctuation is unsustainable for the country as well as the software services sector, which depends largely on export revenues. We hope the central bank (RBI) will step in to ensure the quality of inflows."


Now, with the opposite trend playing out and rupee falling sharply, thereby boosting the rupee value of software exports, Narayana Murthy finds nothing amiss and finds it a general phenomenon,

"Value of rupee keeps fluctuating. This is normal. At some point of time value of Rupee was at 39 against a dollar."


The two contrasting, or opportunistic, remarks provide an insightful peek into India's software industry. The software sector, while undoubtedly globally competititive, benefits from substantial government support. It continues to enjoy most of the benefits extended to it as a sunrise industry in the nineties. The industry has lobbied intensely to retain the tax breaks given to exporters located inside the Software Technology Parks. The sector has the lowest effective tax rate of 15-18%, compared to the statutory corporate tax rate of 34%, and lobbies hard against removing tax exemptions.

Used to double digit growth rates for decades now, it is important that India's software sector adjust to the vagaries of global market place. Instead of relying on free lunches resulting from cheap labour, low tax rate or weak currency, the industry should seek to raise its competitiveness by increasing productivity and moving up the value chain.

1 comment:

Raju Komaravolu said...

Agree.

IT industry has been the bell weather of India growth story - created so much direct and indirect employment in our country and is hiring more new recruits by every passing year, despite all top major IT companies increasing productivity over last 5-8 years by 15-25%.

Moving up the value chain is not going to be easy for any IT company which works on labour cost arbitrage model and creates core business competencies. This is a more long term lever and the success rate will be much lower for Indian companies.

Thus, in the next 2-5 years IT companies will continue to get affected by currency swings (like other exporters). With the room to improve productivity narrower and moving up on value chain a remote chance for most, guess we will continue to see such opportunistic posts :-)