Calls get louder for India to free up currency

Prashanth Vishwanathan | Bloomberg | Getty Images

As the world's worst performing currency this year plumbed new lows this week, some analysts are suggesting that India policymakers loosen the grip on the rupee to stop the rout.

Peter Redward, principal at Redward Associates & Andrew Freris, told CNBC's Asia Squawk Box on Friday that India needs to follow in the footsteps of New Zealand and South Korea and make its currency fully convertible.

"If you look at the New Zealand dollar, it was floated at $0.44 and it's now at (around) $0.80, the problem it has now is that it's overvalued," said Redward, referring to near 80 percent hike in value since the currency was floated in 1985.

Redward also referred to how freeing up the South Korean won has demonstrated potential benefits for the currency.

(Read more: Distant bright spot for India's battered rupee?)

"When Korea floated the won, which is a good example for India as it has more of an emerging market flavor, the won initially came under intense pressure but now the won has strength," said Redward.

The won has risen roughly 30 percent against the U.S. dollar since the currency was made fully convertible in December 1997.

Redward said he expected the rupee to react in a similar fashion if the government were to take steps to liberalize it. The rupee is currently fully convertible on the current account; the currency remains partially convertible on the capital account.

"Initially it [the rupee] would probably [fall]. That would be an overreaction and would provide an opportunity for people to buy," he added.

Expectations of a wind down in U.S. central bank stimulus has led investors to dump risky assets in recent months, knocking the rupee down over 16 percent since late May to a record low of 65.56 to the dollar on Thursday. Now many analysts see the rupee plunging to lows of 70 to the dollar by year-end.

(Read more: Is the rupee 'out of control'?)

John Noonan, senior currency analyst at Thomson Reuters, said liberalizing the rupee would improve its effectiveness as a "global shock absorber."

"One of the big differences from what we are seeing now [compared to] the big crisis in 1997-1998 is that currencies are more free floating than they were then," said Noonan, referring to how the recent emerging market fallout has not been as catastrophic as the Asian financial crisis.

"It's very problematic what they [India] are facing right now but the freer the currency the more there's a shock absorber during these cycles when you see the money come out as they do now," he said.

Meanwhile, Andrew Wilkinson, chief economic strategist at Miller Tabak & Co, told CNBC on Friday that if Indian policy makers were to open up their currency, it could help strengthen the rupee back to 60 to the dollar by the end of the year.

(Read more: Indian rupee hits record low; capital control fears grow)

But Redward said liberalizing the currency would need to be combined with measures to tackle inflation to really improve prospects for the currency and the economy as a whole.

"To me the solution is for India to firstly look at implementing an inflation target... The second component is to look at liberalizing the rupee," he said, adding that he would like to see the government commit to a fixed inflation target of 2 percent per annum for the wholesale price index (WPI).

—By CNBC's Katie Holliday: Follow her on Twitter @hollidaykatie