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CONVERTIBILITY OF RUPEE HISTORICAL OVERVIEW

AND CURRENT SCENARIO

INTRODUCTION:

Indias development strategy was based on protection, self-reliance & import substitution before

the liberalization policy was accepted & initiated. Foreign capital flows were not looked upon

favorably & therefore not encouraged. If there is a deficit in the current account it was financed

mainly through deft flows & official development assistance. he policy followed was one

which discouraged foreign investment. !owever, the adverse balance of payment & the

economic crisis faced by India forced India to adopt economic reforms.

"overnment restrictions can often result in a currency with a low convertibility.

For e#ample, a government with low reserves of hard foreign currency often restrict currency

convertibility because the government would not be in a position to intervene in the foreign

e#change market $i.e. revalue, devalue% to support their own currency if and when necessary.

onvertibility is the 'uality that allows money or other financial instruments to be converted into

other li'uid stores of value. onvertibility is an important factor in international trade, where

instruments valued in different currencies must be e#changed.

urrency onvertibility means the ability to freely e#change the currency of one (ember )tate

into the currency of another (ember )tate.

For e#ample, a *arbadian should be able to easily purchase goods in a store in +ort of )pain with

his *arbadian dollars and receive his change in rinidad and obago dollars.

!owever, this does not always happen because of the e#istence of two different e#change

systems in I( / Fi#ed and Floating. urrency convertibility implies the absence ofe#change controls or restrictions on foreign e#change transactions.

he ease with which a countrys currency can be converted into gold or another currency.

onvertibility is e#tremely important for international commerce. 0hen a currency in

inconvertible, it poses a risk and barrier to trade with foreigners who have no need for the

domestic currency.

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"overnment restrictions can often result in a currency with a low convertibility.

For e#ample, a government with low reserves of hard foreign currency often restrict currency

convertibility because the government would not be in a position to intervene in the foreign

e#change market $i.e. revalue, devalue% to support their own currency if and when necessary.

n international monetary system has been in e#istence since monies have been traded, its

analyses have been traditionally started from the late 12th century when the gold standard began

onvertibility essentially means the ability of residents and non-residents to e#change domestic

currency for foreign currency, without limit, whatever is the purpose of the transactions.

he (ovement of apital for the full functioning of the )(3 depends to a large degree on two

conditions already pointed out in the evised reaty provisions /

bolishing e#change controls and

he free convertibility of currency within the )(3.

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MEANING & DEFINITION:

he ease with which a countrys currency can be converted into gold or another currency.

onvertibility is e#tremely important for international commerce. 0hen a currency is

inconvertible, it poses a risk and barrier to trade with foreigners who have no need for the

domestic currency.

he ability to e#change money for gold or other currencies. )ome governments which do not

have large reserves of hard currency foreign reserves try to restrict currency convertibility, since

they are not in a position to handle large currency market operations to support their currency

when necessary. he state of or the ease with which a currency may be e#changed for a foreign

currency. urrency convertibility is vitally important in the foreign e#change market4 higher

convertibility means that a currency is more li'uid and, therefore, less difficult to trade.

Factors affecting convertibility include the availability of foreign currency reserves in a given

country and domestic regulations seeking to protect local investors from bad investmentdecisions in, say, a currency undergoing a period of hyperinflation.

urrency convertibility refers to the freedom to convert the domestic currency into other

internationally accepted currencies and vice versa at market determined rates of e#change. few

socialist governments even issue inconvertible currencies, such as the ubanpeso, in order to

protect their citizens from perceived capitalist infiltration.

urrency onvertibility refers to the degree to which one currency can be e#changed for another.

)ome currencies trade less freely on the open market and e#changes, in these cases, can be more

difficult to process.

onvertibility is the ease with which a countrys currency can be converted into gold or another

currency. onvertibility is e#tremely important for international commerce. 0hen a currency in

inconvertible, it poses a risk and barrier to trade with foreigners who have no need for the

domestic currency.

urrency convertibility implies the absence of e#change controls or restrictions on foreign

e#change transactions.

urrency convertibility means 5the freedom to convert one currency into other internationally

accepted currencies6. here are two popular categories of currency convertibility, namely7

onvertibility for current international transactions4 and

onvertibility for international capital movements.

urrency convertibility implies the absence of e#change controls or restrictions on foreign

e#change transactions.

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CONVERIBILITY

fficially, the Indian rupee has a market-determined e#change rate. !owever, the *I trades

actively in the 8)9:I; currency market to impact effective e#change rates. hus, the currency

regime in place for the Indian rupee with respect to the 8) dollar is a de facto controlled

e#change rate. his is sometimes called a

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ADVANTAGES

1. 3ncourages e#port7 3#porters are motivated to increase their e#ports since there is possibility

of making more profits under currency convertibility conditions. s a result of convertibilityon current account, higher profits will be earned since market e#change rate will give higher

returns as compared to the officially fi#ed e#change rate. From the given e#ports, they earn

more foreign e#change.

C. 3ncourage Import )ubstitution7 since the market determined e#change rate is higher than the

officially fi#ed e#change rate, imports become more e#pensive. his makes countries to go in

for import substitution.

J. Incentives to )end emittances from broad7 Indian workers employed abroad & ;Is find

it convenient to send remittances of foreign e#change without hassle. his also encouragedillegal remittances like hawala money& smuggling.

D. )elf-adEusting +rocess in the orrection of )urplus or 9eficits in *alance of +ayments7 In

case, a country faces a deficit due to overvalued e#change rate, the currency of the country

will depreciate. his will encourage e#ports by lowering the prices & discourages imports by

raising their prices. In this manner the deficit or surplus in the *+ gets corrected without the

intervention of the government.

A. ountries are enabled to specialize in the +roduction of "oods for which they have a

omparative dvantage7 each country will be able to engage in the production of goods in

accordance with their comparative advantage &resource endowments. 0hen there is

currency convertibility, market e#change rate truly reflects the purchasing power of their

currencies which is based on the prices & costs of goods in different countries. In a

competitive environment, lower prices of goods which reflect the comparative advantage will

enable countries to increase e#ports. hus currency convertibility will lead to specialization

& international trade on the basis of comparative advantage. his will be beneficial for all

countries in trade.

. Integration of 0orld 3conomy7 currency convertibility enables better integration of the world

economy. he easy availability of foreign e#change helps in the growth of trade & increasedcapital flows between countries. his will enables the growth of all countries which is

important in the conte#t of globalization.

It forces the financial sector to be become more efficient, more disciplined, and much

stronger

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It paves the way for companies to access funds from outside without hindrance. It makes it

far easier for foreign companies to invest in India.

)ince it e#poses makes India more e#posed to the vagaries of the international financial

sector, it forces the government to become more disciplined on the fiscal side of things.

It sends a signal to international investors as well as the financial world that India is

confident of itself herself in the economic and financial arena and has the capability to

withstand anything that is thrown at it her.

)ince it e#poses makes India more e#posed to the vagaries of the international financial

sector, it forces the government to become more disciplined on the fiscal side of things.

DISADVANTAGES

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urrency convertibility can give rise to problems of inflation in domestic economy. he market

determined e#change rate is generally higher than the officially fi#ed e#change rate. his leads to

a rise in prices of essential imports which can results in a situation of cost push inflation in an

economy.

If the people monitoring is not done, convertibility can results in the depreciation of the

domestic currency. 8ndue depreciation of a currency can make people lose confidence in the

currency itself. his can adversely affect the trade & capital flows of a country.

8nder capital account convertibility, a country is given the freedom to transact in financial assets

with foreign countries without restrictions. )uch an arrangement is to enable increased

investment activities. *ut there are risks attached to it. very likely possibility is that of capital

flight at the first sign of an internal economic problem.

he short-term capital flights termed as 5hot money6 transfers can destabilize an economy unless

precautionary or counter measures are taken to achieve stability.

)peculative activities may increase under free convertibility, making the e#change rates highly

volatile. )peculation can lead to depreciation of currencies & flight of capital. his is proved by

the e#perience of the )outh 3ast sian countries like hailand, (alaysia, in the year 122@-122,

which e#perienced severe depreciation of currency & capital flight.

India is moving very cautiously towards capital account convertibility due to various risks which

can create macroeconomic imbalance in the in the economy. hough the rupee is not freely

convertible on the capital account, in certain transactions full convertibility prevails.

For e#ample, foreigners, non-resident Indians engaged in investing on portfolio or direct

investments are given freedom to bring in & repatriate their funds. It is felt that a strengthening

of the reserve position & structural strengthening will make India ready to adopt full

convertibility on the capital account.

It e#poses the country India to the volatility of the world financial system. he rupee can

possibly become more volatile.

hat said, there are infinitely more merits than demerits to going becoming convertible on the

capital account. he as far as the demerits are concerned, they are only demerits so only as long

as the financial system and government accounts are shoddy. If they it becomes world class

financial system, it can easily manage volatility can be managed without any problem.

EXTERNAL AND INTERNAL CONVERTIBILITY

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0hen all holdings of the currency by non-residents are freely e#changeable into any foreign

$non- resident% currency at e#change rates within the official margins, then that currency is said

to be e#ternally convertible. ll payments that residents of the country are authorized to make to

non-residents, may be made in any e#ternally convertible currency that residents can buy inforeign e#change markets. nd if there are no restrictions on the ability of a country to use their

holdings of domestic currency to ac'uire any foreign currency and hold it, or transfer it to any

nonresident for any purpose, that countrys currency is said to be internally convertible. hus

e#ternal convertibility is the partial convertibility and total convertibility is the sum of e#ternal

and internal convertibility.

3#ternally inconvertible currencies may be of rather limited value to their holder. n e#ported

item from a developing country to the 8)), for e#ample, may be paid for in rubles or thecurrency of a country that has ratified rticle LIII. he proceeds may be used to purchase goods

anywhere.

In considering possible import suppliers, a developing country will have some interest in

directing its importers to those countries, whose inconvertible currencies are in large supply.

his is, of course, a case of trade discrimination that is condemned by traditional theory. his

means that goods are not being purchased from the cheapest source. ecent economic writing

has, however, reopened the 'uestion in view of the continued e#istence of inconvertiblecurrencies. 0here it is profitable on the e#port side to trade with countries maintaining

inconvertible currencies, as well as the government wishes to encourage imports from such

countries to offset its credit balances, it will utilize its e#change distribution mechanism to limit

the availability of convertible e#change, where there are alternative suppliers of the same type of

goods in inconvertible currency countries.

RUPEE CONVERTIBILITY - HISTORICAL OVERVIEW

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onvertibility of a currency implies that a currency can be transferred into another currency

without any limitations or any control. currency is said to be fully convertible, if it can be

converted into some other currency at the market price of that currency. onvertibility can be

related as the e#tent to which countrys regulations allow free flow of money into and outside the

country.

For in!"n#$%in the case of India till 122B, one had to get permission from the "overnment or

*I as the case may be to procure foreign currency, say 8) 9ollars, for any purpose. *e it

import of raw material, travel abroad, procuring books or paying fees for a ward that pursues

higher studies abroad. )imilarly, any e#porter who e#ports goods or services and brings foreign

currency into the country has to surrender the foreign e#change to *I and get it converted at a

rate pre-determined by *I.

t present, Indian rupee is partly convertible on current ccount. hat is convertibility in thecase of transactions relating to e#change of goods and services, money transfer.

In 122@, the ara pore committee on capital ccount convertibility was constituted by the

eserve *ank. his committee indicated three preconditions for capital ccount convertibility4

they are Fiscal consolidation, a mandated inflation target, strengthening of the financial system.

9uring (arch CBB, +rime (inister said that India is moving towards fuller capital account

convertibility. In response to this the eserve *ank of India set up the ara pore ommittee to

work out another roadmap for current account convertibility.

Full currency convertibility of the Indian rupee means, can travel abroad and buy dollars over the

counters, currency convertibility refers to the absence of any restriction on the holding of foreign

currency by residents and of the national currency by foreigners, and on free conversion between

currencies. an incur e#penses abroad using the credit card and pay for the dollars $or pounds, or

euros% e#panded in rupees.

his helps to invest in specified foreign shares and mutual funds. nd also it attracts many

foreign tourists, which can be contributed to the "9+.

herefore, fuller convertibility of Indian rupee helps to attract F9I and also helps Indians to

invest abroad.

fter the economic liberalization process started in India in 1221, a ?iberalized 3#change ate

(echanism was introduced in 122C.his allowed partial convertibility of Indian rupee, thus

introducing dual e#change rate. fter that full convertibility on trade account started from

122J.It was followed by Full convertibility on current account from 122D.!owever after the

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(e#ico crisis in early122Bs or the mammoth 3ast sia risis where there was sudden flow of

capitalist rationally debilitating the economies of the involved nations, India was reluctant to

adopt capital account convertibility.

!owever the ara pore committee, appointed in 122@, recommended phased implementation of

capital account convertibility with certain prere'uisites like fiscal deficit to be J.AM of "9+, to be brought down to JM, gross ;+ of public sector banks to be AM of the total assets,

inflation rate to be around J.AM.hecommittee was reappointed almost a decade later and

submitted almost the same recommendations with some modifications.

It must be remembered that the movement towards fuller should be a process and not an

event. (acroeconomic stability is a must before achieving full . ny dhoc arrangement

from the fi#ed regime maintained for a long period of time might disturb the foreign e#change

market and disrupt the economic progress.

t present, Indian rupee is partly convertible on current ccount. hat is convertibility in thecase of transactions relating to e#change of goods and services, money transfer.

onvertibility of rupees is known as freedom of e#change of rupee with other all international

currency. It means that rupee can covert in 8) dollars more easily and 8) dollars can convert

in Indian currency for buying and selling of goods and services. fter study everything, I am

writing, uan is e'ual to Indian s. .N2.

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RUPEE AS A CONVERTIBLE CURRENCY

he recent decision of the government to have full convertibility of the Indian upee which will

affect everyone in the country but is remotely understandable by a few, is one such importantdecision, which is designed to please the international financial institutions and the 1B percent of

the population of India who are either rich or of upper middle class.

It is essential to Eudge a policy by e#amining both the costs and benefits of it. he government is

talking about the illusory benefits of this convertibility, which will basically remove all obstacle

to the free flow of money and as a result goods and services also can move freely.

he government, in a fully convertible regime, will not be able to control these flows directly.

Indirect controls will be implemented by changing interest rates and ta#es but the effectiveness

of this control according to the international e#periences is uncertain.

HISTORY OF RUPEE CONVERTIBILITY

8p to 1221, when India faced a maEor foreign e#change crisis, there had been very rigid

controls on both the capital account as well as the current account.

urrent account convertibility was introduced in India in ugust 122D.

fter start of liberalization in 12214 India had accepted the I(F rules for currency reforms.

In 122@ the government had set up a committee $ara pore committee% to spell out a road

map for the full convertibility of the rupee.

ommittee suggested three phases of adopting full convertibility of rupee in capital account.

1. First phase in CBB -CBB@C. )econd phase in CBB@-CBB2J. hird phase in CBB2- CB11

TYPES OF CURRENCY CONVERTIBILITY:

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1. C"i!"' A##o(n! Con)$r!i*i'i!+:

urrency convertibility refers to the freedom to convert the domestic currency into otherinternationally accepted currencies and vice versa. onvertibility in that sense is the obverse of

controls or restrictions on currency transactions. 0hile current account convertibility refers to

freedom in respect of Opayments and transfers for current international transaction, capital

account convertibility $% would mean freedom of currency conversion in relation to capital

transactions in terms of inflows and outflows. rticle LIII of the International (onetary Fund

$I(F% puts a 1C. bligation on a member to avoid imposing restrictions on the making of

payments and transfers for current international transactions. (embers may cooperate for the

purpose of making the e#change control regulations of members more effective. rticle LI $J%,

however, allows members to e#ercise such controls as are necessary to regulate international

capital movements, but not so as to restrict payments for current transactions or which would

unduly delay transfers of funds in settlement of commitments.

dvantages of

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(ore capital available to the country, and the cost of capital would decline.

he freedom to trade in financial assets.

9ifficult for a country to follow unwise macroeconomic policies.

a# levels would move closer to international levels.

It will grow competition among financial institutions.

9isadvantages of

It could lead to the e#port of domestic savings.

3#pose the economy to larger macroeconomic instability.

+remature liberalization could initially stimulate capital inflows that would lead to

appreciation of real e#change rate and thereby destabilize an economy undergoing the

fragile process of transition and structural reform.

It may bring low 'uality investment. It may generate the financial bubble.

C. C(rr$n! A##o(n! Con)$r!i*i'i!+:

urrent account convertibility allows residents to make and receive trade-related payments, i.e.

receive foreign currency for e#port of goods and services and pay foreign currency for import of

goods and services like travels, medical treatment and studies abroad. urrent account

convertibility allows free inflows and outflows for all purposes other than for capital purposes

such as investments and loans. In other words, it allows residents to make and receive trade-related payments / receive dollars $or any other foreign currency% for e#port of goods and

services and pay dollars for import of goods and services, make sundry remittances, access

foreign currency for travel, studies abroad, medical treatment and gifts, etc.

urrent account convertibility refers to freedom in respect of +ayments and transfers for current

international transactions. In other words, if Indians are allowed to buy only foreign goods and

services but restrictions remain on the purchase of assets abroad, it is only current account

convertibility. s of now, convertibility of the rupee into foreign currencies is almost wholly free

for current account i.e. in case of transactions such as trade, travel and tourism, education abroad

etc.

he government introduced a system of +artial upee onvertibility $+% $urrent ccount

onvertibility% on February C2, 122C as part of the Fiscal *udget for 122C-2J. + is designed

to provide a powerful boost to e#port as well as to achieve as efficient import substitution. It is

designed to reduce the scope for bureaucratic controls, which contribute to delays and

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inefficiency. "overnment liberalized the flow of foreign e#change to include items like amount

of foreign currency that can be procured for purpose like travel abroad, studying abroad,

engaging the service of foreign consultants etc. 0hat it means that people are allowed to have

access to foreign currency for buying a whole range of consumables products and services.

urrent account convertibility is popularly defined as the freedom to buy or sell foreigne#change for7

a. he international transactions consisting of payments due in connection with foreign trade,

other current businesses including services and normal short-term banking and credit

facilities.

b. +ayments due as interest on loans and as net income from other investments.

c. +ayment of moderate amounts of amortization of loans for depreciation of direct

investments.

d. (oderate remittances for family living e#penses.

e. uthorized 9ealers may also provide e#change facilities to their customers without prior

approval of the *I beyond specified indicative limits, provided, they are satisfied about the

bonafides of the application such as, business travel, participation in overseas

conferences:seminars, studies: study tours abroad, medical treatment:check-up and

specialized apprenticeship training.

HOW IT WOR,S IN INDIA

apital and current account convertibility in prete#t to Indian economy.

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he ommittee, chaired by former *I governor ) ara pore, was set up by the eserve

*ank of India in consultation with the "overnment of India to revisit the subEect of fuller

capital account convertibility in the conte#t of the progress in economic reforms, the stability

of the e#ternal and financial sectors, accelerated growth and global integration. eserve *ank

of India, and will have the following terms of reference7

8ndertake a review of the e#tant regulations that straddle current and capital accounts,

especially items in one account that have implication for the other account, and iron out

inconsistencies in such regulations.

3#amine e#isting repatriation:surrender re'uirements in the conte#t of current account

convertibility and management of capital account.

Identify areas where streamlining and simplification of procedure is possible and remove the

operational impediments, especially in respect of the ease with which transactions at the level

of authorized entities are conducted, so as to make liberalization more meaningful.

3nsure that guidelines and regulations are consistent with regulatory intent.

eview the delegation of powers on foreign e#change regulations between entral ffice

and egional offices of the *I and e#amine, selectively, the efficacy in the functioning of

the delegation of powers by *I to uthorized 9ealers $banks%.

ADVANTAGES OF RUPEE CONVERTIBILITY

he benefits of free flows of money in a fully convertible regime means foreigners would be able

to invest in the Indian stock markets, buy up companies and property including land $unless there

are restrictions%.

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Indian people and companies can import anything they would like, buy shares of foreign

companies and property in foreign lands and can transfer money as they please without going

through the !awala business.

Indians who have not paid their ta#es or repaid their loans taken from the Indian banks will be

free to transfer their money to foreign countries outside the Eurisdiction of the Indian authority.

he e#pected benefits for India would depend on the attractiveness of the country as a safe

destination for short-term investments. ?ong-term investments do not depend on convertibility.

hina has no convertibility, instead a fi#ed e#change rate for the last 1C years. >et, hina is the

most important destination for long-term foreign investments. hus, discussions about the full

convertibility should be about the desirability of short-term investments and their implications.

)hort term investments i.e., foreign investments in shares and bonds of the Indian companies and

Indian government depend on the demonstration of profit of the Indian companies and the

continuous good health of the Indian economy in terms of low budget deficits, low balance ofpayments deficits, low level of government borrowings and low level of non-performing loan in

the Indian banking system.

From these points of view India cannot be a very attractive destination as the health of the

economy despite of the propaganda of the Indian government is very weak with huge

government debt, revenue deficits, s.1AB, BBB rore of uncollected ta#es and s.1CB, BBB rore

of unpaid loans in the banks, increasing price of petroleum and increasing balance of payments

deficits of the country. 0ith NB percent of people live on less than C dollars a day, and @B percent

of the people live on less than 1 dollar a day, profitable market in India is also very small. If the

Indian companies working under these constraints cannot demonstrate good and continuousprofit, short-term investments will fly out very easily if there is any sign of economic downturn

when there is a fully convertible upee. he result will be further increase in the balance of

payments deficits and fall of the e#change rate of upee, which will provoke Indians to take

their money out of India.

nother advantage of full convertibility of upee for the Indian rich is that they can import as

they like and buy properties abroad as they were allowed to do so during the days of *ritish aE.

It has certain advantages for the Indian companies who will be able to import both raw materials

and machineries or set up foreign establishments at will.

DISADVANTAGES OF RUPEE CONVERTIBILITY

Full convertibility also has adverse conse'uences for the Indias domestic producers of these raw

materials and machineries, as they have to compete against foreign suppliers who like hinese

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may have deliberate low rate of e#change for their currencies thus making their goods low in

price. Foreign suppliers also can be supported by all kinds of subsidies by their government so as

to make their prices very low. gricultural e#ports from 3urope, 8), hailand, and ustralia

can ruin Indias own agriculture.

here are many such historical e#amples in India. 0ithin CB years between 1NBand 1NNB,Indias domestic manufacturing industries were wiped out by free trade and convertible upee

during the days of *ritish aE. Indian farmers during those days could not cultivate their lands, as

the imported food products were cheaper than whatever they could produce. 9emonstration of

wealth by the ;awabs and (aharaEas of India in +aris and ?ondon during the days of *ritish aE

has not done any good for starving millions of India but was responsible for massive misuse of

Indias foreign currency reserve created by the sweat and blood of the Indias poor in those days.

Full convertibility of upee and free trade may bring back those dark days.

he freedom for Indias rich to buy companies and property abroad may lead to massive

diversion of funds from investments in the home economy of India to investments abroad. his

would amount to e#port of Eobs to foreign countries creating more and more unemployment at

home. =apan in recent years suffers from this phenomenon, where increasingly =apanese

companies are transferring funds to hina for investments, taking advantage of the very low

wage rate and low e#change rate of >uan, thus creating unemployment at home. lthough hina

has massive surplus in the balance of payments, huge reserve of dollars and gigantic flows of

foreign investments, a non-convertible >uan and controls on transfer of money have kept hinas

e#change rate low enough so that hinese goods can capture the markets of every important

country of the world.

he most dangerous conse'uence of convertibility is that upee will be under the control of

currency speculators. fully convertible regime for the upee will certainly include

participation of upee in the international currency market and in the future marketof upee,

the playground for the international speculators. It is very much possible for the speculators to

buy massive amount of upee to drive up its e#change ate.

NONCONVERTIBLE CURRENCY

;on onvertible urrency known as a 5blocked currency

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nonconvertible it tends to limit the countrys participation in international trade as well as distort

its balance of trade.

barrier to economic development arising from a nations inability to convert its currency on

foreign e#change markets, thus its inability to ac'uire the foreign capital it needs to achieve

improvements in productivity, income and human welfare among its people.

lmost all nations allow for some method of currency conversion4 uba and ;orth Porea are the

e#ceptions.

hey neither participate in the international Fore# market nor allow conversion of their

currencies by individuals or companies. s a result, these currencies are known as blocked

currencies4 the ;orth Porean won and the uban national peso cannot be accurately valued

against other currencies and are only used for domestic purposes and debts.

)uch nonconvertible currencies present a maEor obstruction to international trade for companies

who reside in these countries.

onvertibility is the 'uality of paper money substitutes which entitles the holder to redeem them

on demand into money proper.

CONVERTIBILITY OF RUPEE IS DEFINED AS:

+artial onvertibility of upee

Full onvertibility of upee

PARTIAL CONVERTIBILITY OF RUPEE

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+artial convertibility of upee was started in 122C for current account. In simple word, there is

no control of Indian currency official. ny foreign company can do business and can go to his

country with this profit after e#changing all Indian currency in their foreign currency. For

e#ample, ccording to its 9irectorseport, a public document filed with Indias egistrar of

ompanies, 5"oogle India +rivate ?td6 reported revenues of s. @@2.JD rore $around Q1@C.BJ

million at current rates%,over the 1A month period from =an CBB2 to (arch CB1B. For the same

period, it reported a profit after ta# of 2@.2 rore $QC1.C million%, and received foreign

e#change of s. .CA rore, with a foreign e#change out go of s. JBD.CD rore. In this,

e#ample, we see that there is no our control our one foreign currency. From economic point of

view, if any country has largest amount of other countries currency, that country will become

economically sound. )uppose, if India has not 8) dollars for e#changing s. JBD.CD rore to

"oogle India +vt. ?td, at that time, India has to take loan of same 8) 9ollars from 8) and

will pay interest on it. )o, it will increase adverse balance of payment.

It is true, with partial convertibility of upees, investment in foreign country has become easy

but it is also harmful for India, because same investment should be in India instead any other

country. ll companies think the benefit of their residential country from where they are

operating their business. )o, for Indias interest, we have to make some strict rules for stopping

outflow of fund on the name of convertibility of rupee or liberalization.

he rupee has arrived. ?ong before the domestic currency gets the Rconvertibletag, its being

freely accepted and e#changed in )ingapore, (alaysia, Indonesia, !ong Pong, )ri ?anka and

other countries. ill now, such transactions were confined to select departmental stores which are

favorite of Indian tourists4 now more and more shops, hotels and even money changers are

willing to accept the local legal tender.

his means no double conversions, and therefore, e#tra cost while e#changing Indian rupees.

his may not be 'uite legal since in the international money market, the rupee is still not a

deliverable currency. ;onetheless, its acceptance is on the rise, thanks to growing trade with

India and a surge in tourist inflows.

It has certainly made things easier for the Indian tourists who can simply carry rupees, and do

away with travelers che'ues. In most sian countries, the nearest money e#changeshop will

give them the local currency against rupees. (any feel the trend has picked with hints that

convertibility may be matter of time.

ravel agents, in India, say that since many Indians are travelling abroad, especially to sian

countries, many banks and foreign e#change agents abroad have started accepting Indian rupees.

armo 0ong, a manager with Rmoney e#changeshop in one of the biggest hotels in )ingapore,

said, 50e have orders to accept the s ABBand s 1,BBB bills. 0e have been doing this for almost

-N months now.6 )ome of the Rmoney changersin )ingapore have a similar view.

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Interestingly, in the small, but growing parallel market, the conversion rates have become finer

for the Indian traveler or the business tourist. 3arlier, a handful of outfits accepted the Indian

rupee and usually the buy:sell spread was high.

(ost travelers $even today% convert their rupees in 8) dollars in India and then e#change them

again in local currencies of countries they visit. he cost of such double conversion could be ashigh as AM. +rakash 9agia, a regular business traveler to countries like Indonesia, *angladesh

and (alaysia, said, 5In the past few months, the rupee has gained acceptance in almost all

countries in sia. he best part is you can e#change it back to Indian rupees when youre flying

back to India.6

Full currency convertibility of the Indian rupee means that you can travel abroad and buy dollars

you need over the counter. +artial currency convertibility already e#ists in the system. For

instance, you can spend through your credit card and pay the money spent in foreign currency

back in India in Indian rupees. urrency convertibility refers to the absence of any restriction on

the holding of foreign currencies by residents and of the national currency by foreigners, and onfree conversion between currencies. It does not preclude restrictions on the type and 'uantity of

non-currency assets that residents can hold abroad or foreigners can hold in the country.

FULL CONVERTIBILITY OF RUPEE

he +rime (inister, 9r. (anmohan )ingh in a speech at the eserve *ank of India, (umbai, on

(arch 1N, CBB referred to the need to revisit the subEect of capital account convertibility. o

'uote7

5"iven the changes that have taken place over the last two decades, there is merit in moving

towards fuller capital account convertibility within a transparent frameworkSI will therefore

re'uest the Finance (inister and the eserve *ank to revisit the subEect and come out with a

roadmap based on current realities6.

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onvertible currencies are defined as currencies that are readily bought, sold, and converted

without the need for permission from a central bank or government entity. (ost maEor currencies

are fully convertible4 that is, they can be traded freely without restriction and with no permission

re'uired. he easy convertibility of currency is are relatively recent development and is in part

attributable to the growth of the international trading markets and the Fore# markets in particular.

!istorically, movement away from the gold e#change standard once in common usage has led to

more and more convertible currencies becoming available on the market. *ecause the value of

currencies is established in comparison to each other, rather than measured against a real

commodity like gold or silver, the ready trade of currencies can offer investors and opportunity

for profit.

he 8.). dollar is an e#ample of a fully convertible currency. here are no restrictions or

limitations on the amount of dollars that can be traded on the international market, and the 8.).

"overnment does not artificially impose a fi#ed value or minimum value on the dollar in

international trade. For this reason, dollars are one of the maEor currencies traded in the Fore#

market.

lthough the (inister of Finance had indicated during his presentation of the 122C-2J *udget

that full convertibility of the rupee would be introduced in a span of J orD years, full

convertibility was announced much earlier and in fact it is the highlight of the 122J-2D *udget.

here is, however, a subtle difference in the full convertibility of the rupee introduced in India

and the concept of full convertibility prevailing in developed countries like the 8.P., 8.).. etc.

In developed countries, full convertibility means that their currency is freely convertible

anywhere in the world. heir home currency can be converted into foreign currency without any

restriction. ne does not have to disclose even the purpose of such conversion. For instance, 8.).9ollars can be changed into )terling +ounds in ;ew >ork, =apanese >en could be e#changed to

9eutsche (arks in Frankfurt, ustralian 9ollars can be converted into anadian 9ollars in

delaide etc., and the e#change rate is controlled by the position of supply and demand in the

market.

he full convertibility announced in the 8nion *udget of 122J-2D, however, allows

convertibility only in the current account, which means the amount received by way of sale

proceeds of e#ports, paid for imports and the remittance by ;Is etc., alone are convertible at

market determined rates.

In the last years *udget, a dual e#change rate was announced i.e., BM at market rates and DBM

at the official rate. In the current *udget, the dual e#change rate has become a unified e#change

rate which is a 1BBM conversion of foreign e#change at market rate. his is described as Full

onvertibility. his does not mean that one can get any amount of foreign e#change at market

rate for meeting any of ones needs. he eserve *ank of India will permit sale of foreign

e#change currency to any one only for those purposes which are stipulated by the "ovt. of India.

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It does not permit conversion of ones savings in the country for investment in foreign countries,

as could be done by the citizens of developed countries like the 8.P. or 8.).. For instance, if a

citizen resident in India wishes to undertake a foreign travel, the e#change for such travel can be

had only as per the norms prescribed by the "ovt. under the Foreign ravel )cheme. Full

convertibility of the upee we have adopted for our country is tied up with e#change controls

and restriction envisaged by the provisions of the F.3.. ct 12@J as amended.

Full convertibility has been introduced only as a measure of reforms to revitalize the economy of

our country and to bring it on to the path of liberalization. he ;ew 3conomic +olicy ushered in

by out "ovt. is with a view to take India forward from a control-ridden-inward-looking economy

into a market - friendly, forward looking progressive and dynamic economy. Full convertibility

of the rupee, lower ustoms and entral 3#cise duties, rela#ation of Import : 3#port restrictions,

streamlining of procedural rules governing ta#ations, streamlining of procedural rules governing

ta#ation laws etc., have opened out our economy with a view to e#pansion and globalization of

our trading activities. hese are measures taken to move India forward in her march towards

economic freedom.

CURRENT SCENARIO

.A LOO, AT RECENT DEPRECIATION OF RUPEE/

India has recently gone through the crisis of sharp depreciation of rupee and depletion of foreigne#change reserve resulting into inflation, demand recession and slow down of economicactivities. he paper e#amines issues related to management of both domestic and e#ternalsectors of Indian 3conomy in a "lobalized world. he paper first e#amines the operation of openeconomy- the interconnectivity developed through e#ports and imports and capital flows. hen,an analysis is carried out on long period movements of the e#change rate in the regime of fullurrent ccount and +artial apital ccount convertibility of rupee. he statistical analysis onthe association of e#change rate movements with various components of capital inflows and

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urrent ccount deficit has been done. he last section analyses, the crisis period until )ept.CB1J, measures to manage the crisis and turnaround of the e#ternal environment of Indianeconomy in the framework developed in the paper.

ecent risis )cenario in India and (anagement of 3#change rate & Foreign

3#change eserves

ecent crisis in the e#ternal sector has been occurring for both domestic as well as international

demand recession induced by the declaration of Fed hairman *en *ernanke in (ay that the 8)

would be pulling back its bond-purchase programmed. his created e#odus of FII from emerging

economy. 9uring this time, urrent ccount 9eficit $9% was increasing alarmingly and could

not be compensated with laggard inflows of capital. )ince depreciation of rupee, costs of

importing oil which is an essential imports for India, has been increasing. ttempts have been

made by *I through ?F schemes to attract inflows of foreign capital which led to increase in

the repo rate and hence discouraged both domestic consumption as well as investment demands.s a result of increase in the prices of importable, the domestic economy has been e#periencing

high inflation.

*I intervened in the foreign e#change market by selling dollars which temporarily halted the

fall of rupee, but could not be sustained. Indias foreign e#change reserve fell to the critical level

and was unable to cover ade'uate risks of foreign e#change reserves as per I(F ade'uacy

norms. ccording to end (arch CB1J *Is half yearly report on (anagement of Foreign

3#change eserves, the ratio of volatile capital inflows defined as cumulative portfolio inflows

and short term debt to reserves increased to 2.1 in (arch CB1J from NJ.2 percent at end

)eptember CB1C.

(easures such as restriction on gold imports and capital outflows by Indian residents and the

corporate did not have any favorable impact on the e#change rate and foreign 3#change reserves.

mong other measures, the "ovt. of India opened dialogue to have rupee payments with maEor

oil e#porting countries.

urn around in foreign 3#change rate and Foreign 3#change eserve situation

urn around in the e#change rate of rupee started only with the announcement by 8) Fed to put

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policy by 8) "ovt., e#ports rose 11.CM in )eptember while imports fell 1N.1M, which

compressed trade deficit to Q.N billion.

onclusion

hough rupee at present is fully convertible only at urrent ccount and partially convertible at

apital ccount, Indian economy is still vulnerable to e#ternal economic environment.

0orldwide demand recession induced due to fear of tapering of 8) Feds bond purchase and

flight of capital through FII route caused serious depreciation of rupee and depletion of foreign

e#change reserves for Indian economy. his calls for new instruments to build up foreign

e#change reserves and strengthen rupee on long term basis. ecent measure of swap arrangement

for ;I deposits with banks is proving to be successful. he measure to control gold import has

also been useful to control import bills. he "ovt.s attempt to enter into the rupee payment

system with those countries e#porting oil to India also will improve Indias reserve position.

hus, *I has an active role to find measures to be e#ecuted for management of the e#ternal

value of rupee and foreign e#change reserves with both short term and long term goals. hough

monetary policies have a significant role to play in the management of volatility of capital

inflows and foreign e#change reserves the long term stability for the economy calls for fiscal

policies

CONCLUSION

he volatile nature of capital inflow presents an alarming trend. ?iberalizing capital control may

lead to huge dependence on foreign portfolio capital. ;eed is to channelize the capital flow.

s recognized in the recent ara pore ommittee eport, financial institutions 5ability to

identify, measure, and manage risk will also depend on the availability of instruments to manage

risk, the li'uidity of financial markets and the 'uality of market infrastructure, and level of

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market discipline. Pey segments of the Indian capital markets remain, however, underdeveloped.

he term money market is limited and although there is a domestic yield curve for government

securities with maturities up to JB years, its depth and li'uidity are limited.

he "ovt. had however stated that if the value of the rupee depreciates to an unreasonable level

in the free market operations, the .*.I. will intervene and control it. his assurance certainlygives credence to the earnestness and sincerity with which the full convertibility has been

announced.

BIBLOGRAPHY

*usiness ?ine esearch *ureau, $(archCC, CBB%7 apital account convertibility, 9ua, +ami

and )en, +artha, $CBB%. apital Flow Lolatility and e#change rates in India.

*I $CB1C-1J%. !andbook of )tatistics on Indian 3conomy, eserve *ank of India

+ublication, http7:www.rbi.org.in

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"ian =yoti e-=ournal, Lolume 1, Issue J $I)); CCAB-JDNK%, www.gEimt.com:"ian=yoti3-

=ournal.htm

http7::www.econEournals.com