Trade Boost
At its core, rupee trade is a go-around to transact with partners that cannot pay in dollars for various reasons. Under this system, Indian importers pay rupees and exporters receive rupees into a vostro account. While names of the countries with vostro accounts have not been formally released, reports suggest that Sri Lanka and Mauritius are on the approved list, while Saudi Arabia and the United Arab Emirates (UAE) have expressed interest. Rupee trade with Russia is said to have already started.
You might also like
How GST brought cheer to some states, not others
RBI to appeal HC order on Yes Bank AT-1 bonds
How a non-compete clause pushed Roongta to RIA practice
Rupee trade is most favourable with partners such as Russia, Saudi Arabia, or the UAE, where India is a large importer, and there is a strong existing or potential demand for Indian exports. In September 2022, the Federation of Indian Export Organizations (FIEO) estimated that the rupee trade system could potentially generate an additional $5 billion of exports to Russia in a year’s time.
Currency Math
India will save dollars by paying in rupees for its imports, but it will forgo dollars by receiving rupees for exports. This means rupee trade will be dollar-positive only when dollars saved exceed dollars foregone—or when it is carried out with countries with which India has a net deficit (imports exceeding exports). For example, even by settling 10% of the trade with Russia between April and November 2022 in rupees, India would have saved $2.7 billion. But since India runs a trade surplus with Bangladesh, a similar switch would have resulted in India giving up $670 million.
Thus the final impact on India’s current account will depend on whether India has a net surplus or deficit with participating countries, and what the size of rupee trade value is relative to total trade. If the amount of dollars foregone due to rupee trade is significant relative to the overall capital account, it could impact the exchange rate negatively.
Pros and Cons
The greatest benefit of rupee trade is its potential to increase trade flows among nations that prefer to settle international trade in rupees instead of dollars. Domestically, businesses that export and import in rupees can be better protected from exchange rate fluctuations. If a significant volume of India’s trade is in rupees, the economy can be better hedged against sudden exchange-rate shocks. Accretion of forex reserves via export dollars would drop, but the need for reserves may also come down.
On the flip side, if rupee trade were to take off, India, as a repository of global rupee savings, will face the risk of greater foreign ownership of domestic assets. This could open up a situation where non-resident investors holding G-secs may sell off at a time of crisis, resulting in market volatility.
Dollars Rule
If rupee trade does pick up, it will be limited to small blocks of countries where the rupee is acceptable. This may include Gulf Cooperation Council countries, and neighbouring economies, in addition to Russia. The rupee trade group will probably be one of several non-dollar blocks that may emerge in future: there are reports of an oil-based petro-yuan block consisting of China and West Asian countries. However, none of these trade groups are likely to dethrone the US dollar or allow the world to switch to other currencies in a big way.
The US dollar accounts for 60% of global reserves (Q3 2022), 88% of the OTC forex turnover (April 2022), 74% of export invoicing in the Asia-Pacific region (1999-2019), and around 60% of foreign currency-denominated debt (2020). The US offers the world’s deepest and most liquid financial markets, so it remains the investment currency of choice as well as a safe haven asset.
Capital Inflows
An optimistic view of rupee trade popular on social media is that it heralds the rise of the rupee as a global currency.
The opposite view is that it will be accepted only by distressed trading partners fighting dollar scarcity. Neither scenario is likely to come true. A more realistic assessment is to view rupee trade as a policy tool to manage the problem of funding imports at a time when slowing global growth and rising interest rates threaten dollar flows to emerging economies. Note that economies that run current account surpluses, such as oil exporters, need countries like India which run deficits in order to invest their surplus savings. As long as India has the enabling environment, it will always receive overseas capital, both rupees and dollars. By permitting rupee settlement, authorities have simply opened another channel for these capital flows.
(Deepa Vasudevan is an independent writer in economics and finance.)
Elsewhere in Mint
In Opinion, Manu Joseph says it’s a wonder what most Indian politicians actually do. CM Eknath Shinde writes Mahrashtra was a magnet for investment MoUs at Davos. L. Viswanathan & Madhav Kanoria explain how govt's proposals will strengthen insolvency code. Long Story tells how to explain the budget to your grandma.
