Exchange Rate Pass-Through
Exchange rate pass-through measures the extent to which changes in the rupee's external value feed through into domestic prices — particularly import prices, WPI, and eventually CPI — with complete pass-through meaning a 1% depreciation raises domestic prices by 1%, though India's actual pass-through is partial and varies by sector.
When the Indian rupee depreciates against the US dollar, the landed cost of all imported goods rises in rupee terms, all else equal. The extent to which these higher import costs are reflected in wholesale and retail prices depends on several factors: the degree of competition in the import market, the pricing power of domestic firms, inventory levels and hedging, government import duties or subsidies, and whether the depreciation is expected to be transient or persistent.
Research by RBI economists has estimated India's exchange rate pass-through to import prices at approximately 40-60% over a one-year horizon — substantially less than complete pass-through. The pass-through to WPI inflation (which has a higher share of imported inputs — crude oil, metals, edible oils) is higher, estimated at 20-40% at the wholesale level. Pass-through to CPI, which has a large non-tradable component (services, housing, domestically produced food), is lower, estimated at 5-15% over one year.
Crude oil is the single most important channel for exchange rate pass-through in India. India imports approximately 85% of its crude oil needs. A 10% rupee depreciation combined with stable global crude prices raises petrol and diesel prices by approximately 8-10% in rupee terms, assuming no government intervention via excise duty cuts. This directly affects fuel prices in CPI and indirectly raises transport costs across the economy, raising the prices of food and manufactured goods.
Edible oils (India imports large quantities of palm oil and soybean oil) and fertilisers (imported in significant volumes) are other major pass-through channels. The manufacturing sector's dependence on imported components — particularly electronics, semiconductors, and specialty chemicals — means that rupee depreciation raises input costs and can compress corporate margins before firms can pass through the higher costs to customers.
Government policy interventions can truncate pass-through. Reductions in fuel excise duties (as seen in November 2021 and May 2022) and import duty adjustments on edible oils have been used to cushion domestic consumers from global price and exchange rate volatility. Conversely, a rising rupee does not always lead to deflation, as the price-setting asymmetry (prices rise more readily than they fall) limits the pass-through in the downward direction.