Internationalisation of Indian Rupee - Daily Current Affair Article

CONTEXT:

With the pride of being the world's largest democracy on the infertile soil of the world’s most hierarchical society, 2047 will mark 100 years of India's Independence. Along with nostalgia, it brings some questions. Are the next 25 years going to make us a global power with long-dreamed aspiration of having Indian rupee as global currency?

PRESENT STATUS OF INDIAN RUPEE

  • Currently, Indian rupee totals upto 74.15 against USD.
  • Over the last three weeks since 22nd March 2021, Rupee has lost 4.2% against the USD.
  • India, at present, does not permit the rupee to be officially used for international transactions, except those with Nepal and Bhutan, though there are indications of the Indian rupee gaining acceptability in other countries like Singapore, Malaysia, Indonesia, Hong Kong, Sri Lanka and the UK.
  • In the past, India attempted rupee trade with the USSR. Today rupee trade arrangements are being made with Iran.
  • Our economic skills have a strong opening balance as India has never defaulted and the 1991 reforms have been accelerated by big reforms like GST, IBC, inflation targeting, education, labour, and agriculture.
  • A secret internal assessment by Britain’s ministry of defence (MoD) has pegged the Indian rupee to be the major reserve currency that will be traded internationally in the next two decades.
  • A further assessment says that by 2040, the Rupee will challenge China’s Renminbi as the strongest global currency.

DOLLAR- THE GLOBAL CURRENCY

  • Eighty per cent of the world’s trade takes place in dollars. The dollar as the currency of trade, store of value and central bank reserves all over the world offers many advantages to the US.
  • The study titled, “Internationalisation of Currency: The case of the Indian Rupee and the Chinese Renminbi" by RBI also said it is quite unlikely that the dollar will lose its predominance as the global reserve currency in the foreseeable future.
  • Reasons for the acceptance of dollar as global currency
  • According to the International Standards Organizations list, there are a total of 185 currencies worldwide. However, most of these currencies are used within their own country. Thus, USA, being the biggest economy in the world, enjoys the most global acceptance.
  • 80% of world trade takes place in dollars. About 39% of the world's loans are given in US dollars and 65% of dollar supply is used outside of the United States.
  • As per the rule of the IMF, each of the 189 member countries have to deposit a certain percentage of their quota in the US dollars, which ultimately increases the demand of the dollar internationally.
  • Foreign Exchange Reserves in central banks around the world account for 64% of the US dollar.
  • The value of US dollar doesn't fluctuate often. Thus, increasing dependency.
  • The US contributes the most in the treasures of the World Bank Group and the International Monetary Fund.

STEPPING UP OF CHINESE RENMINBI AS GLOBAL CURRENCY

  • China’s wealth and power — per capita GDP rising 80 times in the last 40 years has lifted 800 million Chinese out of poverty.
  • The renminbi is being used for trade with Vietnam, Myanmar, Laos, Central Asian Republics and so on. It is aimed to become a major currency in the local region, in Asia and then globally.

Efforts taken by China to internationalise Renminbi :

  • The most important was the inauguration of several offshore centers for transactions with the Chinese RMB.
  • The location of these centers reveals careful attention for regional distribution, with centers in Asia, Oceania, Africa, Western and Eastern Europe, North and South America.
  • A pilot project for the denomination and settlement of international trade in RMB.
  • Focusing on local neighbours by having bilateral agreements with several countries (notably in Asia) to stimulate trade in the local currencies, circumventing the necessity of using the US dollar.
  • Another pilot project was launched in 2011, for the settlement of Foreign Direct Investment in RMB.
  • CIPS (Cross-Border Interbank Payment System) was launched in 2015, with the explicit aim of facilitating cross-border RMB business and creating an alternative to the widely used – and Western-controlled – SWIFT.
  • Denomination of oil barrels prices in RMB.
  • Additionally, the Belt and Road Initiative (BRI) is potentially a far-reaching vector for increasing the international usage of the RMB
  • China is a major player in new multilateral banks – namely, the New Development Bank (NDB) and the Asian Infrastructure Investment Bank (AIIB) – which may also provide credit lines in RMB.

BENEFITS AND CONSTRAINTS IN MAKING INDIAN RUPEE AS A GLOBAL CURRENCY

BENEFITS

  • Becoming a global reserve currency is a wholesome goal because it indirectly aligns fiscal, monetary, and economic policy.
  • The use of the rupee would reduce foreign currency risk for Indian businesses and stabilise trade. Trade in rupees means reduced dependence on the dollar and foreign currency
  • It will also mean liquidity in financial markets and closer ties which augment employment in the non-farm sector.
  • It will provide easy access to capital and help lower the cost of borrowings for Indian firms.
  • Facilitate greater degree of integration of Indian economy with rest of the world in terms of foreign trade and international capital flows.
  • Savings on foreign exchange transactions for Indian residents, reduced foreign exchange exposure for Indian corporate, reduction in dependence on foreign exchange reserves for balance of payment stability etc.

CONSTRAINTS

  • Indeed, full convertibility could bring with itself higher volatility, an increased burden on foreign debt and an effect on balance of trade (especially exports).
  • Withdrawal of short-term funds and portfolio investments by non-residents could also be a major potential risk of internationalization of the Indian rupee.

SUGGESTIONS

  • Capital account convertibility, as suggested by the Tarapore Committee in 1997. The rupee is substantially convertible for foreigners. A 2030 deadline for finishing the agenda could be a nice interim milestone.
  • Trading partners should be encouraged to start
  • rupee invoicing,
  • raising corporate rupee borrowing offshore and onshore,
  • accelerating our CBDC (central bank digital bank currency) plans,
  • taking our UPI payment technology to the world.
  • Fiscal policy must raise our tax to GDP ratio, raise the share of direct taxes in total taxes, and keep our public debt to GDP ratio under 100 per cent.
  • Monetary policy must control inflation while moderating central bank balance sheet size.
  • Economic policy must raise the productivity of our regions, sectors, firms, and individuals.
  • These goals must be complemented by reinforcing institutions that signal rule of law; cooperative federalism, press freedom, civil service effectiveness, and judicial independence.
  • The RBI commissioned two studies in 2010
  • Internationalisation of Currency : The case of the Indian Rupee and Chinese Renminbi by Rajiv Ranjan and Anand Prakash
  • An internationalised rupee? by Shyamala Gopinath
  • Both recommended that policymakers should start by increasing the role of the INR in its local region.
  • Indian goods should be made a major part of global trade i.e. Increase exports
  • We need to recognise that the regime of globalisation is over, now trade will happen through trade-blocks and we must participate in some of the trade blocks that the US, UK and EU organise.The only trade blocks that must be a strict no-go for India should be the ones with China in them.
  • Systematically relax restrictions on foreign capital.
  • More conducive taxation policy for taxes on capital, irrespective of whether it is foreign or Indian.
  • Investments in India, either Foreign Portfolio Investment or Foreign Institutional Investment or Foreign Direct Investment should be as simple as opening a bank account.

Some basics:

1. Foreign Exchange Rate

  • The price of one currency in terms of the other is known as the exchange rate. According to Purchasing Power Parity theory, the foreign exchange rate is determined by the relative purchasing powers of the two currencies.
  • For some countries, exchange rates constantly change, while others use a fixed exchange rate.
  • The economic and social outlook of a country will influence its currency exchange rate compared to other countries.
  • Interest rates, money supply, and financial stability are the three factors that affect currency exchange rates.
  • The exchange rate of rupee is one of the markers to compare Indian economy’s competitiveness vis-a-vis other economies

2. Capital account convertibility

  • Capital Account Convertibility (CCA) is the facet of a country’s financial system which allows for the conversion of foreign financial assets into domestic financial assets and vice versa at market determined rates.
  • This theory, to enable third world economies to grow as globalised economies, was proposed by the Tarapore Committee setup by the RBI.
  • CAC shall be introduced in an economy only when there is low inflation, low fiscal deficit, low NPAs, high Forex Reserves, functional independence of the Central Bank, no restrictions on Gold movement.
  • The main advantages of full CCA are:
  • Deepening of market and attaining thehe status of a leading global economy.
  • Improved access to international financial markets and reduction in cost of capital.
  • Open financial markets to global competition
  • Ensure availability of large funds to supplement domestic resources and thus promote economic growth.
  • On the downside:
  • Erratic flow of foreign capital leading to financial instability.
  • Opening up the economy to global shocks like the 2008 financial crisis.
  • Speculative activity can lead to capital flight from country as in case of some South East Asian economies during 1997-98
  • Imposing control would become difficult in a globalised environment once CAC is introduced.

CONCLUSION

India stands a good chance at a rupee inclusion in the list of SDR or globally traded currencies. But for that to happen, we must make our economy so robust that nations wish to trade with us and our currency is thereby more frequently transacted.

India’s strong financial sector which is very transparent combined with a rules-based regime makes it a much better contender than China to be used widely as a global currency.

Sources

  • The Indian Express
  • The Print
  • Times of India
  • The Mint
General Studies Paper 3
  • Economy