Travelling in the United States for the past two weeks and carrying out transactions in dollars is a strong reminder of the economic status (or lack thereof) that the Indian currency—the Indian rupee—enjoys in the global arena. Even as India has emerged as one of the world’s fastest growing economies and also a preferred destination for global investors, one wonders why the rupee cannot be accepted in the settlement of transactions across the world. However, things may change soon if the Indian government has its way in internationalising the Indian rupee.
Any currency, including the rupee, is supposed to perform four functions domestically. These are summarised in a mnemonic rhyme from older economics texts: “Money is a matter of functions four: a medium, a measure, a standard and a store.” An international currency performs much the same functions as a domestic currency, except that it is used both by private sector entities and the government in various transactions.
As a unit of account or measure, the rupee as an international currency would act as the yardstick—the common denominator—by which other values are measured. In this role, it would be used to invoice private foreign trade transactions, and also by the government to express the official exchange rate.
As a medium of exchange, it would act as an intermediary between the buyer and the seller. In this role, it may be used to settle private international economic transactions, while the government may use such currency as a means of intervening in the foreign exchange markets, and for financing the Balance of Payments.
As a standard of deferred payments, the rupee as an international currency would need to ensure that it must be acceptable for making purchases in the present that would be paid in the future, whether by the government or by private players.
And finally, and most importantly, in its role as a store of value, the rupee would need to be accepted and held by various central banks and monetary authorities as reserve assets, while private actors would denominate loans, bonds and deposits in rupees.
Is such internationalisation of the rupee desirable? Eminently so. For, it helps Indian exporters, importers, travellers, and others limit exchange rate risks. Imagine, if I had planned to spend `82,000 (which equals $1000 at the current exchange rate) on food and drinks for my fortnight stay in the US. I carry $1000 to the US, only to realise that with the rupee appreciating to `85 to a dollar, I am left with only $964 for food. If I had been able to pay in my own currency, such a situation would not arise. Similarly, Indian firms can access international financial markets without exposing themselves to foreign exchange rate risks, since they may borrow in dollars and repay in rupees. Better access to international financial markets would also result in lower cost of capital.
Internationalising the rupee would offer strong benefits to the Indian government as well: it need not hold large amounts of foreign exchange reserves in the form of multiple currencies in order to manage external sector vulnerabilities. Currently, 88.7% of the foreign exchange reserves held by the Reserve Bank of India is in the form of foreign currency assets (FCAs), including currencies such as the dollar, Chinese Renminbi (RMB), euro, etc. Such FCAs earn no interest for the government, and yet have to be held as a cushion against exchange rate volatility and to balance our Balance of Payments.
However, it is not that such internationalisation would have no costs. Case in point is the concern raised by economist Robert Triffin in 1960 to the US Congress. Triffin argued that as the US ran large trade deficits, a steady stream of dollars would find its way to the rest of the world and fuel world economic growth. However, the resultant glut of dollars would erode the confidence in the currency and thus pose a threat to it as the international reserve currency.
India has witnessed a variant of the Triffin dilemma in its oil trade with Russia in the last year. As the oil trade between India and Russia surged in 2022–23, it led to a massive Indian trade deficit with Russia worth $43 billion, as its imports (worth $49.35 billion) far exceeded its exports (at $3.14 billion). The glut in the Indian rupees in Russian banks has created issues of how Russia could use the currency. The internationalisation of the rupee may also accentuate external shocks that get transmitted to the domestic economy due to the open flow of funds into and out of the country and from one currency to another.
Despite such costs, the case for internationalisation of the rupee is strong due to the large potential benefits for the government as well as resident Indians. In fact, the International Monetary Fund (IMF) in a paper in 2011 identified the Indian rupee as one of the five emerging market currencies, which had the potential for internationalisation due to the significant regional importance and economic weight that India carried.
A starting point would be to encourage a large number of bilateral swaps and Lines of Credit for settling international trade transactions with its large trade partners. The government may encourage such bilateral swaps through specific trade policies, enabling the development of financial market infrastructure and fiscal incentives. At the same time, policy makers would also need to ensure price stability so as to sustain confidence in the rupee’s long-term purchasing power and provide the necessary pull for foreign players to accept the rupee in such transactions. Ultimately, it boils down to whether or not the rupee would be able to perform the four functions efficiently internationally!
(Views are personal)
Tulsi Jayakumar
Professor, Finance & Economics, and Executive Director, Centre for Family Business & Entrepreneurship at Bhavan’s SPJIMR