Internationalising the Rupee: Unleashing India’s Currency Potential

Introduction:

In recent times, the conversation around internationalizing currencies has gained momentum, triggered by events like the US imposing an embargo on Russia and blocking payments through the SWIFT system. Countries are now exploring the concept of de-dollarization, with the internationalization of their local currencies as part of the solution. India, too, has taken a significant step forward with the Inter-Departmental Group of the RBI releasing a report on the internationalization of the rupee. This blog delves into the potential of the rupee’s internationalization, the challenges it faces, and the strategies that India can adopt to bolster its position in the global financial landscape.

The Demand and Supply of the Rupee:

For a currency to be truly internationalized, it needs both demand and supply. On the supply side, India can liberalize regulations on foreigners or Indians holding rupees outside the country, allowing it to be used beyond Indian borders. However, the challenge lies in generating sufficient demand for the rupee in the international market. While allowing other countries to hold rupees is a necessary step, developing trust and acceptability for the rupee will take time.

Global Forex Reserves and Currencies in Demand:

An essential aspect of internationalizing a currency is its share in global forex reserves. Currently, around 60% of the world’s forex reserves are held in dollars, with the euro, yen, and pound accounting for 20%, 5-5.5%, respectively. Despite China’s efforts to promote the yuan, its share in global forex reserves remains modest, standing at 2.6%. This illustrates that the size of the economy alone does not guarantee global acceptance of a currency.

Exports and FDI Outflows as Indicators:

Countries that export a significant amount of goods have an incentive to have their currency accepted as a mode of payment. The euro region, accounting for 26% of global exports, is a prime example of this phenomenon. India, with a 2.4% share in global exports, ranks 9th in terms of currencies that could be candidates for internationalization. Similarly, a country’s share in FDI outflows can be an indicator of its currency’s global appeal. While India’s share is currently around 1%, it can improve over time with appropriate policies.

Sovereign Country Rating as a Stumbling Block:

The sovereign country rating plays a pivotal role in shaping the international perception of a nation’s economic and financial stability. It is a measure of a country’s creditworthiness, indicating its ability to meet its debt obligations and repay its loans. Ratings agencies, such as Standard & Poor’s, Moody’s, and Fitch, assess various economic and financial indicators to assign a rating to a country.

For India, the current sovereign country rating is BBB-, which falls within the investment grade category. While this rating signifies that India is relatively stable and capable of meeting its obligations, it is below the A+ category enjoyed by many reserve currencies like the US dollar, the euro, and the Japanese yen. Currencies of countries with higher ratings are generally preferred for inclusion in central banks’ forex reserves and as a mode of international trade settlement. To change this perception, India must continue making efforts to showcase its strengths in the global financial arena.

Steps to Strengthen the Rupee’s Internationalization:

1. Liberalize Regulations: To strengthen the internationalization of the rupee, India should continue to liberalize regulations surrounding rupee transactions. Currently, there are restrictions on foreigners or Indians holding rupees outside the country, limiting its use beyond Indian borders. By easing these regulations, foreign investors and entities should be allowed to hold and trade rupees more freely. This will increase the availability and accessibility of the rupee in the international market, making it more attractive for cross-border transactions and investments.

Furthermore, the government can explore relaxing the limits on carrying rupees outside the country for travelers. The current restriction of ₹25,000 may be reconsidered to facilitate more seamless transactions and encourage rupee usage abroad. Allowing a higher limit can also help in reducing the demand for foreign currencies for small transactions by travelers, leading to potential savings in foreign exchange reserves for the country.

2. Strategic Partnerships: India can enhance the global acceptance of the rupee by forging strategic partnerships with countries in East and South Asia, the Gulf Cooperation Council (GCC), and developed nations like Japan. By signing treaties and bilateral agreements, India can create a network of countries that use the rupee as a mode of payment for imports and investments.

Establishing currency swap arrangements with these countries can further promote the use of the rupee in cross-border trade and financial transactions. Such arrangements can provide a safety net during times of currency fluctuations and financial crises, reducing the dependency on foreign currencies.

Collaboration with developed nations like Japan can add credibility and stability to the rupee’s internationalization efforts. Japan’s endorsement of the rupee as a viable currency for trade and investment can instill confidence in other countries to consider the rupee as a reliable option.

3. Improving Sovereign Rating: India’s sovereign rating plays a crucial role in determining the acceptability and attractiveness of the rupee on the global stage. Currently rated at BBB-, India must make continuous and targeted efforts to improve its rating to at least the A+ category, on par with other reserve currencies.

To achieve this, India should focus on maintaining fiscal discipline, ensuring macroeconomic stability, and implementing structural reforms to boost economic growth and investor confidence. These measures will enhance the perception of India as a stable and creditworthy nation, encouraging global investors to hold rupee-denominated assets and conduct transactions in rupees.

Inclusion of Indian bonds in global indices, such as those compiled by major financial institutions like FTSE Russell or Bloomberg Barclays, can showcase the strength and attractiveness of Indian debt securities to international investors. This inclusion can attract significant foreign investments and bolster the demand for the rupee in global financial markets.

4. Public Perception: The success of rupee internationalization ultimately hinges on how India is perceived globally. India must continue to project itself as a reliable economic powerhouse with a robust financial system, capable of withstanding economic shocks and uncertainties.

Maintaining transparency, adherence to international accounting standards, and effective communication of economic policies and reforms are essential in shaping a positive public perception of India’s economic landscape. Demonstrating resilience during times of global crises can further bolster India’s reputation as a safe destination for investments and trade, thereby increasing the demand for the rupee.

Collaboration with international financial institutions, ratings agencies, and participation in global forums can also contribute to building a positive image of India’s economy and currency. Regularly engaging with foreign investors, regulators, and policymakers will foster trust and confidence in the rupee as a reliable currency for international transactions.

Conclusion:

Strengthening the internationalization of the rupee is a multi-faceted endeavor that requires a combination of liberalizing regulations, forming strategic partnerships, improving the sovereign rating, and shaping a positive public perception. By pursuing these steps diligently, India can propel the rupee towards becoming a more widely accepted and sought-after currency in the global financial landscape. The internationalization of the rupee will not only enhance India’s economic influence but also contribute to greater financial stability and reduced reliance on foreign currencies. With a focused and coordinated approach, India can position the rupee as a significant player in international trade, investment, and global finance.

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