I mentioned earlier that monetary policy cannot be entirely relied upon to restore current account balance that is a major source of pressure on the domestic foreign exchange market. It is well established that short-term interest rate is a monetary phenomenon; it cannot be made too high in relation to the needs of growth and full employment.
A substantial hike in the rate of interest could possibly help bring in foreign exchange through short-term portfolio investment by foreigners to finance the current account deficit but would not correct the deficit. A higher rate of interest, while helping to ease the domestic foreign exchange market, would at the same time stifle growth of those sectors that are emerging.