India steps up push to make rupee a power player, but the road is long

Turning the rupee into a hard currency—one that is viewed as politically and economically stable—would be a layered process contingent on several factors, such as convertibility on the capital account, sustained high economic growth and promising export footprint that lowers trade deficit.

The agenda first gathered steam in July 2022 when the Reserve Bank of India (RBI) put in place a mechanism to allow trade settlement in rupees. An important headway came in December 2023 with India’s first-ever rupee payment for oil from the United Arab Emirates, a major trading partner. Earlier, an RBI panel also gave recommendations, some of which led to the central bank announcing in May a plan to allow non-residents to open rupee accounts.

 

The budget announcement also comes at a time when the rupee has been in a perceptible sweet spot. Shielded by rising capital inflows, it has moved in a narrow range with low volatility this year, bolstering its credibility when peers have faced downward pressures, battered by a strengthening US dollar and rising commodity prices. While relative stability alone doesn’t guarantee globalization, it is a show of strength and could push a case for increased global use.

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Hurdles to cross

“What FM Sitharaman announced is a continuation of existing efforts," Dhiraj Nim, chief economist at ANZ, said. “Internationalizing the rupee is a long-term game. More such measures will be needed over the coming years."

For a national currency to globalize, full convertibility—or free, market-driven, exchange of a currency with others, and vice versa—is essential. The rupee is fully convertible on the current account (e.g. trade) since 1992, it’s not on the capital account as there are restrictions and ceilings on rupee flows for cross-border investments.

However, as a lower middle-income economy in transition, India’s approach to full capital account convertibility has been cautious as opening up comes with increased vulnerability to external shocks. “Our exchange rates are very vulnerable to capital flight risks. Huge strides in capital account convertibility will need a lot more stable economy," Nim said.

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Steps to deepen our bond market, such as more Indian government bonds being traded on global indices, will attract more foreign capital. “We need a macro strategy where we are reducing our current account deficit, to support greater rupee internationalization. Our bond markets need to be deepened, making it easy for people to invest," said Sakshi Gupta, principal economist at HDFC Bank.

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Windows of hope

While the US dollar remains sacrosanct in the world of trade, the goal to give rupee more wings promises economic gains by slashing transaction costs and mitigating forex risks for traders. India has taken tiny steps in facilitating rupee trade with countries including Nepal and Sri Lanka but these account for a minuscule share in India’s as well as global trade. India could take lessons from China, which has managed to make its currency the fourth most active currency for global payments by value, with a share of 4.6% in June 2024,according to latest data from SWIFT, an interbank messaging network.

However, China’s push to internationalize the yuan started in the 2000s and it was not until 2016 that the currency got included in the IMF’s basket of reserve currencies. India’s attempt will be contingent upon a delicate balance of stable and substantial foreign flows and could take a long time. India's recent inclusion in the JP Morgan GBI-EM Global Series is a pivotal step towards this. While India takes baby steps, the journey towards rupee globalization is undoubtedly complex and fraught with challenges.