India: Effect of Income and Exchange Rate Elasticities on Foreign Trade

The Indian currency (rupee) has depreciated 39% in the last two years, and plunged 13% since May ’13 and the falling rupee has substantially appreciated the revenues for the exporters, who receive more rupees for their dollar receipts. In this paper I analyze exchange rate and income elasticity of Indian imports and exports. I find a significant gap between domestic and foreign income elasticities (for exports and imports respectively) which points to a threat of growing trade deficits. In addition I also find that the exchange rate elasticity is positive for both India’s exports and imports. This indicates that depreciation of the Indian Currency will increase both imports and exports for India.