NEW DELHI: Amid the Indian rupee touching a record low of 79.45 against the dollar, the
Reserve Bank of India
(
RBI
) on Monday announced an arrangement for the country's traders to settle imports and exports in rupees, a move aimed at facilitating trade with Russia that is facing a wide range of Western sanctions and is virtually cut off from standard cross-border payment platforms.
The move to allow rupee settlements for
international trade
would help India promote exports and facilitate trade with countries under sanction. The rupee can now be used to pay for Russian oil rather than the dollar. India has been lifting imports of oil to take advantage of a dip in prices after US, Europe,
and
piled economic sanctions on Russia. Since the arrangement appears to have been made to enable a rupee-ruble trade, a cheaper Russian crude can help India, which has seen
inflation
surge past the central bank’s target as oil rallied to nearly $130 a barrel.
How does the new mechanism work?
Under this mechanism, exporters and importers can use a special vostro account linked to the correspondent bank of the partner country for receipts and payments denominated in rupees. A Vostro account is one opened by a bank in its home country on behalf of a foreign bank. The funds in the rupee account can be used by the export partner for trading with anyone who accepts rupees.
Indian exporters may also receive advance payment against exports from overseas importers in Indian rupees through the mechanism. Banks have to take approvalfrom the Foreign Exchange Department of Reserve Bank of India on doing such transactions. Moreover, before allowing any such receipt of advance payment against exports, Indian banks need to ensure that available funds in these accounts are first used towards payment obligations arising out of already executed export orders / export payments in the pipeline.
Move comes at a time when rupee has hit record lows
The central bank’s move, which it said was to promote growth of global trade and to support increasing global interest in the rupee, comes amid increasing pressure on the Indian currency in the wake of Russia’s invasion of Ukraine. The rupee continues to be weighed down by strengthening greenback, continuously benefiting by the safe haven demand and Fed’s monetary tightening bias despite the weakening growth outlook. The
Dollar index
surged to the highest level since 2003 (around 107.79) while US 10-year yields regained the 3% mark while commodities continued to slide lower.
Moreover, high crude prices and relatively strong domestic demand widened India's trade deficit to record highs of $25.6 billion in June. With imports being bolstered by buoyant domestic demand and exports likely to decline due to risks of a global slowdown and recent correction in commodity prices, India's current account deficit/GDP is expected to remain at 3%. Further, capital outflows are likely to continue given the continuing global monetary policy tightening and flight to safety, which will put more pressure on the rupee.
Rupee trade will facilitate trade with Russia and prevent rupee's slide
The RBI mechanism is expected to help importers and exporters to avoid rules that prevent the use of a global currency such as the US dollar for trade with certain countries. After Russia attacked Ukraine, several countries had imposed sanctions on Russia, following which Indian companies needed alternative modes of payment for imports.
According to Madan Sabnavis, chief economist at Bank of Baroda, "the international trade settlement in rupees will provide a solution to such transactions with countries like Russia that are out of the SWIFT system.. This will promote trade, especially imports, for India. The critical part will, however, be the determination of the exchange rate that will be decided by the market." Since India imports more than it exports, the country will save foreign currency under the new arrangement. Under normal circ*mstances, iNDIA would have had to pay Russia in dollars for oil purchases, which can now be done through the rupee-rouble route.
India’s trade with Russia stood at $13.1 billion in 2021-22, and experts believe the RBI would expedite transactions between the two countries.
Russia’s attack on Ukraine has seen several countries impose sanctions on the former, with the US cutting off Russia’s access to the dollar. This has made Indian companies, looking to take advantage of the lower price of Russian commodities, consider alternative modes of payment for imports.
"If India does start to convert trade with Russia under this route, it can potentially pay for a chunk of its oil imports in rupees. The trade balance—in Russia’s favour—will stay as rupee balances of Russian banks with India’s banking system, to be invested in Indian assets (including government securities). This would ease India’s hard currency outflow substantially," said Ananth Narayan, Associate Professor – Finance at S. P. Jain Institute of Management and Research.
The case to internationalise the rupee
Point to note: An SBI report earlier this month suggested that the RBI should make an effort to internationalise the Indian currency so that non-residents can then use the rupee for trades or other transactions.
For instance, an importer from a particular country can source items from another nation using the rupee. ``The RBI should make a conscious effort to internationalise the rupee. The Russia-Ukraine war and the disruptions to payments caused by it is a good opportunity to insist on export settlement in rupee, beginning with some of the smaller export partners,’’ the SBI report said.
In March 2022, Soumya Kanti Ghosh, group chief economic adviser, SBI had said "hegemony of the dollar is likely to continue in the next few decades, notwithstanding the alternate settlement mechanism being envisaged by select nations, circuiting around the western sanctions as backdoor talks gather momentum for rupee-rouble or yuan-rouble settlements globally, with some enthusiasts betting for gold settlements too."
And ever since sanctions were imposed on Russia, trade has been virtually at standstill with the country due to payment problems. Exporters have been waiting for a payment mechanism with Russia to begin shipping goods that do not face sanctions, including pharma and food products. If a trading partner agrees for billing in rupees, they will either receive or make payments into a special rupee Vostro account that Indian banks have been allowed to open on behalf of foreign partners.
"As a result of the trade-facilitation mechanism introduced by the RBI, we see payment issues with Russia easing. The move would also reduce the risk of forex fluctuation, specially looking at the euro-rupee parity. We see this as a first step towards 100% convertibility of rupee,” said Engineering Export Promotion Council chairman Mahesh Desai.
Currently, 60% of trade payments by Indian firms are denominated in the US dollar, while 5-10% in rupee and the balance in other currencies. “The rupee has not weakened against every currency. In fact, it has strengthened against the currencies of most major countries. It seems like it is aimed at curbing that currency volatility. In principle, this is a good step because it gives more flexibility to both importers and exporters,” said Rahul Bajoria, managing director and chief India economist, Barclays.
According to A. Sakthivel, president of the Federation of Indian Export Organisations (FIEO), under the existing provisions of the Foreign Exchange Management Act, final settlements must be in free foreign exchange except for Nepal and Bhutan. Now, if the RBI approves, the final settlement to all countries can be in the Indian rupee. The move is timely as many countries are facing huge forex shortages in Africa and South America.
The rupee invoicing would reduce foreign exchange risks as the dollar had turned extremely volatile and several currencies have hit a new low against the dollar.
Other measures taken by the RBI to prop up the rupee
Last week, RBI announced a slew of measures to enhance foreign exchange flows and rein in the value of the rupee, including allowing overseas investors to buy short-term corporate debt and opening of more government securities under the fully accessible route. It also announced exemption from CRR/SLR maintenance on incremental deposits and removal of cap on interest rates on these deposits.
With inputs from Agencies
