Trading in rupees has a wider reach and has triggered expectations. India has begun working out arrangements for this purpose, with close to 50 nations. Will this lead to a clash of currencies in Asia, and what could be the consequences, especially for India and Indian businesses?
Mr N Sathiya Moorthy
Convener, Policy Matters
When we talk of trading in Indian rupees, many questions arise. How good is it as a policy? Are we ready for it? About 30-40 years back, the rupee global trade collapsed for various reasons. There is a news report that says that the BRICS currency is being revived. Will it work and where does it fit into our idea of trading in rupee? Occasionally, there is also the realisation of India having to trade with our neighbours in a common currency and it could be rupee. For instance, Sri Lanka because of their current economic crisis, have said that they want to trade in Indian rupee. They have allowed Indian travellers to go there and do business locally in Indian rupee. But this is only at the individual level.
In trade terms, there is a totally different picture. 15 years back, the Sri Lankan President of the day said, “Let us have a common currency or let us do business in Indian currency.” Around that time, Maldivian President also agreed to that. I read that Bangladesh was also not unwilling to consider it, if we could evolve something. Indian currency is acceptable in both Bhutan and Nepal. But we wanted to wait, watch and proceed.
Mr M R Sivaraman
Former Revenue Secretary, Govt of India & Former Executive Director, IMF
There was a trade agreement between the Government of India and the Government of the then Soviet Union in 1953. It led to the establishment of the rupee-ruble trade with India. Article 6 of that agreement states that all payments between India and the USSR described in Article 7 may be made in Indian Rupees. Article 7 states that all payments of trading goods and other transactions will be carried out in Indian rupees. This was there with all the Soviet Union Bloc countries like Hungary, Bulgaria and Romania. The rupee-ruble rate was then fixed at 34 rupees to a ruble, which was at least three times more than the market exchange rate.
What to do with Rupee?
In this agreement, there was an article 8 which said that any balances in the rupee accounts maintained by the State of Bank of USSR with the RBI or with authorised commercial banks will be convertible on demand into Sterling. That was the initial position. But thereafter it also changed because we didn’t have enough dollars or sterlings. Then started all the problems.
We started buying a lot of equipment from Russia- mostly military equipment, heavy earthmoving equipment and various kinds of machinery. Russia used to buy detergents, soaps, pharmaceuticals, some chemicals and consumer items. The rupee balances with Russia started mounting and it reached a stage when Russia did not know what to do with the rupees. After the collapse of the Soviet Union, Russia said that we’ll go back to normal foreign exchange hard currency transactions.
Now we import a lot of oil. We very quickly entered into the rupee trade agreement. Russians also wanted to show they have some friends in the Ukraine war. But then they realized that all these billions of barrels of oil which we import, get paid in rupees and they wonder what to do with the rupees. The talks have stalled and are not progressing anywhere. Because of sanctions, we can’t send to Russia anything except engineering goods which are manufactured in India and Russians don’t want that from us.
When Nehru turned down a request
Sri Lanka or Bangladesh is slightly different where we have a huge trade surplus with them. Bangladesh exports over $2 billion a year to India and we export about 10 to $12 billion. How will the Bangladesh find the rupees? These are complicated issues. I get the feeling that Reserve Bank of India was pushed into it. If you look at the history of the Reserve Bank of India, in 1961, H V R Iyengar was the RBI Governor and he wrote to Mr. Nehru that the rupee trading arrangement was going to fail and requested not to push it. When confronted with his letter by the Department of Economic Affairs, Mr Nehru turned it down, saying it was a political decision.
There are 18 currencies in the world, which are freely convertible. A freely convertible currency means that there are absolutely no restrictions by anybody on the use of that currency. Australian dollars, New Zealand pounds, Singapore dollars, Kuwaiti dinar, UAE dirhams are all convertible currencies. Interestingly, Kenyan shilling is also a convertible currency. I spent 40 years in finance. From my experience, if we are going to do something, we must do it the whole hog. Don’t leave it for any interpretation by any clerk or undersecretary or somebody sitting there, because then the entire scheme will collapse.
SDR: A Basket of Five
The International Monetary Fund has got a unit of account known as the SDR. Its value is based on a basket of five currencies. The Chinese renminbi was added in 2016. The US dollar, euro, British pound sterling and Japanese yen are the other currencies. The SDR or special drawing right is a unit of account in which the International Monetary Fund carries out transactions. There is a formula by which these currencies are put into the basket and their exchange rates are also fixed. Although renminbi is not a freely convertible or a freely usable currency, it is still a part of the SDR and it can be given only for capital account transactions. The Central Bank of China has put some restrictions.
In the years 1940-42, John Maynard Keynes, the father of modern economics suggested the creation of a currency known as bancor for use in all international transactions but the proposal was not accepted.
If our currency has to become global, we must be a very big trading nation. The United States does international trade of about $6.6 trillion; China does $7.4 trillion. In the case of India, last year, we touched $1.4 to $1.5 trillion. It’s not a small amount. We are a large trading nation if imports and exports are taken together. But our merchandise trade gap is huge. We export $460 billion and import around $700 billion. The countries whose currencies are freely tradable, more or less balance their merchandise trade.
AI Threats for Software
Mr Raghuram Rajan, former RBI Governor has suggested that India should focus its attention on exporting services. In the case of services exports, there is a problem. Right now, we have been doing software services and we are slowly advancing into other areas, but the entire software area is getting transformed to artificial intelligence and quantum computing is coming in. We have to do a tremendous amount of research in artificial intelligence to be relevant. China is spending on developing a high-grade chip to two nanometers. India has already designed 5 nanometer chips in Hyderabad and it has gone to TSMC for manufacture in its current design but we have no manufacturing facility yet.
Indian rupee has been depreciating in the last few years. Other global currencies have not depreciated to that extent. The exchange rate has to be stable and there should not be any restrictions on the movement or use of currency anywhere. Our merchandise trade also has to improve. Then only, we can attempt to make Indian rupee global, but unfortunately, we have not done it so far.
Dr Sanjay Kumar
Partner – Public Policy & Tax, Deloitte
In the world, you will find that there is a complete dominance of the US dollar. 90% of all foreign transactions are done in the US dollar; 50% of the global trading invoice happens in dollars; 60% of the global reserves are in dollars. So, whatever others do, the dollar still remains as strong as ever. The next one in row is the Chinese currency. Their economy moved to $17 trillion and there was a larger trade. The space occupied by the Chinese renminbi has moved from 2.2% to almost 7%. European Euro has been on a decline, though very marginally. Indian rupee is on the ascendance from 1% to almost 1.6% But it’s not yet there. Brazilian rial is almost the same. To think of a Euro or US Dollar decline in the recent future seems tough at the moment, based on the numbers that is coming through.
India’s Journey in Promoting Rupee
Look at India’s journey from 1950s to 2022. In the 50s, India traded oil from Iran and that was in rupee. In the 60-70s, India signed several trade agreements with the Soviet Union and Eastern European countries to trade in rupee. In 71, India signed a bilateral trade agreement with Nepal. In 2000, India signed an FTA with Sri Lanka. In 2012, India again signed an agreement with Iran to conduct oil trade in rupee, bypassing the US dollar and US sanctions. In 2017, we signed an agreement with Bhutan and in 2022, RBI has permitted banks from 18 countries to open Special Vostro Rupee Accounts to permit rupee trade.
Each of these things have happened in bits and pieces and not in a very continuous manner. There has not been a thrust towards the rupee trade. And largely one of the reasons is the difference in value between what we export and import. Only 5% of India’s imports originate from the US and 15% of our exports go to the US and that is largely in the services sector.
Singapore and UAE Reap it All
India gets only about 10 to 15% on the cost from the GICs (Global in-house companies or back offices as we normally call them) though, in terms of numbers, 54% of the GICs exist in India. What is holding it? Do they not consider us as important players in the economy? Do they think that we are not capable? The answer is they can’t take whatever money that they receive here. If they want to take it, there’s a lot more restriction and the two island nations on either side of the Indian peninsula-Singapore and UAE are getting benefitted out of it, as they have such a free economy. You can move out and can come in and they offer a lot more protection. They have no taxes or reduced taxes. Most of the global companies have the second layer or intermediate level layer in those places. The work of the GICs will happen here. The IPR will all be sitting in those places—largely in Singapore and not in India. They fear that our patent offices are leaky and therefore move everything to Singapore.
Russia recently suspended rupee trade negotiation because they have 40-billion-rupee reserves. They are pressurizing us to pay for oil in Renminbi. The world needs to have more confidence in our economy. We need to have a lot more trade going from us and a lot more economic growth. We have not been able to breach 7% for a really long time. That remains one of our major concerns.
Dr Suresh Babu
Professor of Economics, Department of Humanities and Social Sciences, IIT Madras & Adviser to Economic Advisory Council of Prime Minister
We started RBI’s trade settlement mechanism in July 2022 and by December 2022, we saw the first settlement of foreign trade in rupee with Russia. These are baby steps and over a period of time, we want to have the rupee as a global currency. That 18 countries have agreed to trade in rupee-some big and some not very big ones- is a good first step for us.
There is a kind of thinking to de-dollarise the international market, because of the constant threat of global economic slowdown. Our game plan is to try and turn this into an opportunity. What the Chinese did some time back, we are trying to do it in a different way. This is the background in which we started this exercise. As there has been a strengthening of the dollar over time, imports have become expensive for many countries in the world. So, there could be an incentive for some of these countries to de-dollarise and we want to entice them with rupees. We are not making it as an alternative to dollar.
The idea is that a reliance on Indian rupee, away from US dollar, could mean some respite for some of these countries and if not now, over a slightly longer horizon of time. The immediate decision on rupee trade settlement was taken in the backdrop of the geopolitical tensions and the current global economic currents, including the US sanctions on the use of dollar for transactions with both Iran and Russia, who are very important trading partners of India. There is also a continuous weakening of Indian rupee. The move was expected to reduce the pressures of India on our foreign exchange reserves. That’s the broad macroeconomic objective which we had.
Arresting Rupee Decline
India is a net importer, especially in terms of manufactured goods. The rupee was one of the worst performing Asian currencies in 2022, that had a fall of around 10%. By using rupee for international trade sanctions, it was anticipated that it would help protect the flow of dollars out of India and also slow down the depreciation of the currency. We don’t have tall claims for that and the idea was to have some intervention. There was also the crude oil import from Russia, which we are capitalizing on. The idea was that if we can have a rupee settlement mechanism, then we could actually save around $30 billion outflows, even if there is a partial rupee settlement and it would help our foreign exchange reserves.
When we went into this decision, there was a 17% drop in the exports to Russia. The trade deficit with Russia was widening and we had to do something. The widening of trade deficit was because there was a delay in the payments that we were receiving from them because of the international sanctions against Russia. In this backdrop, we thought we can have this settlement mechanism, which will be beneficial to both the countries.
18 Countries Given the Nod
Now 18 countries have been permitted by the RBI to open Special Vostro Rupee (SVR) accounts. The bank of a partner country may approach an AD (Authorised Dealer) bank in India. This AD bank will then seek the approval from RBI with the details of the arrangement and subsequently approval from the RBI is granted to this bank. Trade settlement will happen in Indian rupee.
The best definition of an international currency has been given by Chinn and Frankel in a fantastic paper published in 2008. The function of an international currency is in terms of the store of value; medium of exchange and a unit of account. We know that any currency has these functions but governments as well as private actors should be able to use this international currency for all transactions. It should also become a kind of local currency. Our wish or dream, in the years to come, is to make rupee as an international currency.
There are some benefits in rupee invoicing with some trade partners such as Russia, Saudi Arabia, Nigeria, UAE where India is a larger importer. There is potential for exports as well. There is a possibility for India to enter into contracts with these countries because we have an unfavourable trade balance with them. If we can settle it in rupees, there is a possibility that India might benefit and that is the idea that we are pursuing this.
60 SRVs in 7 Months
In a very short span of seven months, we have 60 Special Rupee Vostro (SRV) accounts, which is not a very small number. India has a large trade deficit with eight countries: Botswana, Germany, Guyana, Malaysia, Myanmar, Oman, Russia and Singapore. With all of them, we look at how we can push our rupee trading and it could be mutually beneficial.
A very interesting research was done by the State Bank of India research group and it showed that there is a change happening globally in the trade of oil and commodities. Some countries are in favour of settling in Hong Kong dollar or UAE dhiram. If we can get somewhere close to that, there is a possibility that Indian rupee might also be accepted globally for settlements. The BRICS countries tried to de-dollarise. It gave an opportunity for China to push its agenda. It could also be an opportune moment for India to encash. But we have a long way to go.
When our trading partners have depreciation of their currency against dollar, it might not be appealing for them to do rupee trading. Bangladesh, Turkey and UK have depreciated against dollar by more than 10%. Turkish Lira depreciated almost 94% against the dollar. There is also a need for a much more sophisticated financial system in India, if we want to push for a global currency. We have to develop both regulatory mechanisms as well as depth in our financial markets.
Finally, when we look at this whole effort to internationalize currency, we find that it could affect the service sectors, because if we try to push this agenda of de-dollarization beyond a point, the US might not be very happy with that and might retaliate. Then the first hit for us would be service exports. We have to be extremely careful in pushing this agenda.
Taking Care of 3 Issues
Three issues have to be kept in mind in taking up rupee trading mechanism:
- Bilateral trade equilibrium
- There is a possibility that it could lead to macroeconomic imbalance and lead to a situation where India’s trade deficit is financed with surplus investments of trading partners, which might go to government securities and treasury bills. Inflationary tendencies might push us into a very difficult situation, if we don’t have a comfortable exchange rate management policy.
- We are fighting in an era of global trade protectionism and geopolitical rivalries. It is very difficult to push rupee further in a situation in which every country is trying for a protectionist trade policy. That puts a limit on us.