“I was able to use Indian money. You can even use rupees in any restaurant, or shopping outlet. Isn’t it so wonderful? A massive thanks to @narendramodi saab for enabling us to use our money like dollars..Salute”, so read a tweet on April 12, 2023, by singer Mika Singh, who posted a video of him transacting through Indian rupee currency notes at an airport in Qatar.
Why does the United States (US) dollar continue to be the dominant currency in the world? In general, trade can be invoiced in either of three currencies, i.e., in the home currency of the exporter, in the currency of the importer, or in the currency of a third country known as ‘vehicle’ currency.
However, most often, it is the US dollar (or sometimes the euro) that constitutes a considerable proportion of global trade transaction invoicing irrespective of the countries involved in the trade, where prices are set in dollars.
In the case of India, 86 percent of its imports are invoiced in dollars, while only 5 percent of India's imports originate in the US. While China makes up 16 percent of India's imports these are mainly invoiced in dollars.
For example, the rupee price and volume of India’s imports from China depend more on the rupee-dollar exchange rate than the rupee-yuan exchange rate if import prices from China are set in dollars. Recall that when prices are invoiced in dollars they tend to be sticky in dollars, which means that from India’s perspective the rupee price moves with the rupee-dollar exchange rate and not the rupee-yuan exchange rate.
Rising demand for fuel and other petroleum products amid flagging domestic crude oil output has resulted in India’s reliance on imported crude increasing to a record 87.3 percent of domestic consumption in 2022-23, up from 85.5 percent in 2021-22.
India’s oil import dependency was 84.4 percent in 2020-21, 85 percent in 2019-20, and 83.8 percent in 2018-19. India's crude import bill expanded to $158 billion in 2022-23 from $121 billion in the previous year. In volume terms, crude imports increased to 232.4 million tonne in 2022-23 from 212.43 million tonne. While the volume of crude oil imports grew by 9.4 percent, India’s crude oil import bill soared nearly 31 percent.
India’s merchandise imports in 2022-23 were $714 billion, up 16 percent from $613 billion in 2021-22. Oil imports as a percentage of total imports were 22% in 2022-23, up from 19% in 2021-22.
Reducing dollar dependence
So, there is the need to lower the dependence on the dollar, and internationalise the rupee. And there are signs of this happening. Sample this.
On July 11, 2023, Bangladesh and India launched a much-anticipated trade transaction in rupees, a move aimed at reducing dependence on the US dollar and strengthening regional currency and trade.
On July 15, 2023, the Reserve Bank of India (RBI) and the Central Bank of United Arab Emirates (CBUAE) signed two memorandums of understanding (MoU). The first MoU was for establishing a framework to promote the use of local currencies, i.e., the Indian rupee (INR) and the UAE dirham (AED) for cross-border transactions. The second MoU was for cooperating on interlinking their payment and messaging systems.
On July 16, during ministerial-level talks, Finance Minister Nirmala Sitharaman and her Indonesia counterpart Sri Mulyani Indrawati announced the launch of an Economic and Financial Dialogue between the two countries.
"We also discussed any possibility of co-operation on digital technology, payments systems under the central bank, and using more local currency (for trade)," the Indonesian finance minister told reporters.
On August 8, Moneycontrol reported that Brazil and South Africa may be next in line for India’s bilateral currency settlement plan as it aims to first convince smaller countries to accept transactions in rupees.
There is a strategic pattern to this. India is seeking to ride on bilateral trade pacts to internationalise the rupee and reduce dependency on the dollar. India currently has free trade agreements (FTAs) with seven countries bilaterally and 18 countries multilaterally — 11 member-countries of the Association of SouthEast Asian Nations (ASEAN) and seven of the South Asia Free Trade Agreement. Four more are under discussion; these include the United Kingdom, the USA and Canada and a multilateral arrangement with the European Union, which has 27 members. Negotiations with the Russia-led Eurasian Economic Union (EAEU), which includes Armenia, Belarus, Kazakhstan, and Kyrgyzstan, besides Russia, are also expected to start soon.
The Gulf Cooperation Council (GCC) has approached New Delhi to begin negotiations for a bilateral trade agreement on behalf of the grouping. Bahrain, Kuwait, Oman, Qatar, Saudi Arabia, and the UAE are part of the GCC.
A dominant concern in inter-country associations is about clearly laying down the path of long and medium-term geostrategic goals while keeping one eye firmly on domestic interests.
The currency’s influence, utility and might play a key role in trade movements.
An FTA obligates signatory countries — bilaterally or multilaterally — to a set of mutually agreed conditions pertaining to trade in goods and services among them. Terms can include tariff levels, and removal of measures and provisions that act as trade barriers.
These are more about creating an economic union of sorts that will allow for the free movement of factors of production—labour and capital mainly—and the coordination of economic policies among member countries.
India has now thrown currency into this mix as a matter of strategic interest.
Dollar faces a big test
The dollar, which has grown into the world’s reserve currency over the last few decades, may be facing its biggest test in an evolving currency war. Governments and currency administrators are increasingly realising the risks associated with over-dependence on the dollar.
For instance, the strengthening of the dollar often knocks up prices in India. India imports nearly 88 per cent of its requirements of crude oil, which is priced in dollars. A stronger dollar pushes up the landed cost of crude oil, which raises petrol and diesel prices, fanning inflation by raising commuting and transportation costs.
The dominance of the dollar is a phenomenon not only in trade but also in international finance. Non-US firms that borrow internationally often do so by issuing dollar-denominated debt, more so than any other global currency, such as euros. According to the Bank for International Settlement, 60 percent of foreign currency local claims of banks are denominated in dollars.
The US has also pressed the dollar as a geostrategic tool during geopolitical conflicts in recent years. The freezing of dollar accounts during the Ukraine-Russia conflict is a case in point.
The case for shifting towards a multipolar global financial system, dismantling the control of a single currency, to make the world trade and financial payments system more inclusive is getting stronger.
A Reserve Bank of India (RBI)-appointed committee has suggested various measures, like allowing Indian banks to offer services in rupee overseas, permitting non-residents to open INR accounts, and withdrawing withholding tax on masala bonds, to accelerate the pace of internationalisation of the domestic currency.
The RBI’s report of the Inter-Departmental Group (IDG) on Internationalisation of INR (Indian Rupee), published on July 5, 2023, also suggested that in the process of attaining the objective of INR as a "Vehicle Currency" (a medium of exchange between other currencies), the Reserve Bank may target the inclusion of the INR in the IMF's Special Drawing Rights (SDR) (supplementary foreign exchange reserve assets defined and maintained by the IMF) basket. Importantly, the rupee's “internationalisation is a process rather than an event”.
Internationalisation of the Indian rupee may have well begun, nearly five decades after yesteryear comedian Mehmood figuratively hummed 'Na Biwi na bachcha na baap bada na maiyya / The whole thing is that ki bhaiyya, sabse bada rupaiya' in the 1976 movie Sabse Bada Rupaiya.
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