Currency convertibility

CURRENCY CONVERTIBILITY

1) INTRODUCTION

India’s 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. The policy followed was one which discouraged foreign

investment. However, the adverse balance of payment & the economic crisis faced

by India forced India to adopt economic reforms.

Government restrictions can often result in a currency with a low convertibility.

For example, 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 exchange market (i.e. revalue, devalue) to support their own

currency if and when necessary.

Convertibility is the quality that allows money or other financial instruments to be

converted into other liquid stores of value. Convertibility is an important factor in

international trade, where instruments valued in different currencies must be

exchanged.

Currency Convertibility means the ability to freely exchange the currency of one

Member State into the currency of another Member State.

For example, a Barbadian should be able to easily purchase goods in a store in Port

of Spain with his Barbadian dollars and receive his change in Trinidad and Tobago

dollars.

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http://en.wikipedia.org/wiki/International_trade

http://en.wikipedia.org/wiki/Store_of_value

http://en.wikipedia.org/wiki/Market_liquidity


However, this does not always happen because of the existence of two different

exchange systems in CARICOM – Fixed and Floating. Currency convertibility

implies the absence of exchange controls or restrictions on foreign exchange

transactions.

The ease with which a country's currency can be converted into gold or another

currency. Convertibility is extremely important for international commerce. When a

currency in inconvertible, it poses a risk and barrier to trade with foreigners who

have no need for the domestic currency.

Government restrictions can often result in a currency with a low convertibility.

For example, 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 exchange market (i.e. revalue, devalue) to support their own

currency if and when necessary.

An international monetary system has been in existence since monies have been

traded, its analyses have been traditionally started from the late 19th century when

the gold standard began

Convertibility essentially means the ability of residents and non-residents to

exchange domestic currency for foreign currency, without limit, whatever be the

purpose of the transactions.

The Movement of Capital for the full functioning of the CSME depends to a large

degree on two conditions already pointed out in the Revised Treaty provisions –

Abolishing exchange controls and

The free convertibility of currency within the CSME.


2) MEANING & DEFINITION

The ease with which a country's currency can be converted into gold or another

currency. Convertibility is extremely important for international commerce. When a

currency is inconvertible, it poses a risk and barrier to trade with foreigners who

have no need for the domestic currency.

The ability to exchange money for gold or other currencies. Some 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.

The state of or the ease with which a currency may be exchanged for a foreign

currency. Currency convertibility is vitally important in the foreign exchange

market; higher convertibility means that a currency is more liquid 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 investment decisions in, say, a currency undergoing a period of hyperinflation.

Currency convertibility refers to the freedom to convert the domestic currency into

other internationally accepted currencies and vice versa at market determined rates

of exchange.

A few socialist governments even issue inconvertible currencies, such as the Cuban

peso, in order to protect their citizens from perceived capitalist infiltration.

Currency Convertibility refers to the degree to which one currency can be exchanged

for another. Some currencies trade less freely on the open market and exchanges, in

these cases, can be more difficult to process.

http://financial-dictionary.thefreedictionary.com/Capitalist

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http://financial-dictionary.thefreedictionary.com/Trade

http://financial-dictionary.thefreedictionary.com/Liquid

http://financial-dictionary.thefreedictionary.com/Market

http://financial-dictionary.thefreedictionary.com/Foreign+Exchange

http://financial-dictionary.thefreedictionary.com/Currency

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Currency Convertibility is the ease with which a country's currency can be converted

into gold or another currency. Convertibility is extremely important for international

commerce. When a currency in inconvertible, it poses a risk and barrier to trade with

foreigners who have no need for the domestic currency.

Currency convertibility implies the absence of exchange controls or restrictions on

foreign exchange transactions.

Currency convertibility means “the freedom to convert one currency into other

internationally accepted currencies”. There are two popular categories of currency

convertibility, namely :

Convertibility for current international transactions; and

Convertibility for international capital movements.

Currency convertibility implies the absence of exchange controls or

restrictions on foreign exchange transactions.


3) ADVANTAGES

Encourages export : - Exporters are motivated to increase their exports since

there is possibility of making more profits under currency convertibility

conditions. As a result of convertibility on current account, higher profits will

be earned since market exchange rate will give higher returns as compared to

the officially fixed exchange rate. From the given exports, they earn more

foreign exchange.

Encourage Import Substitution : - since the market determined exchange rate is

higher than the officially fixed exchange rate, imports become more

expensive. This makes countries to go in for import substitution.

Incentives to Send Remittances from Abroad :- Indian workers employed

abroad & NRIs find it convenient to send remittances of foreign exchange

without hassle. This also encouraged illegal remittances like ‘hawala money’

& smuggling.

Self-adjusting Process in the Correction of Surplus or Deficits in Balance of

Payments:- In case, a country faces a deficit due to overvalued exchange rate,

the currency of the country will depreciate. This will encourage exports by

lowering the prices & discourages imports by raising their prices. In this

manner the deficit or surplus in the BoP gets corrected without the

intervention of the government.


Countries are Enabled to specialize in the Production of Goods for which

they have a Comparative Advantage:- each country will be able to engage in

the production of goods in accordance with their comparative advantage &

resource endowments. When there is currency convertibility, market exchange

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 exports. Thus currency convertibility will

lead to specialization & international trade on the basis of comparative

advantage. This will be beneficial for all countries in trade.

Integration of World Economy :- currency convertibility enables better

integration of the world economy. The easy availability of foreign exchange

helps in the growth of trade & increased capital flows between countries. This

will enables the growth of all countries which is important in the context of

globalization.

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

and much stronger

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.


Since it exposes makes India more exposed 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.

Since it exposes makes India more exposed to the vagaries of the international

financial sector, it forces the government to become more disciplined on the

fiscal side of things.


4) DISADVANTAGES

Currency convertibility can give rise to problems of inflation in domestic economy.

The market determined exchange rate is generally higher than the officially fixed

exchange rate. This 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. Undue depreciation of a currency can make people loose

confidence in the currency itself. This can adversely affect the trade & capital flows

of a country.

Under capital account convertibility, a country is given the freedom to transact in

financial assets with foreign countries without restrictions. Such an arrangement is to

enable increased investment activities. But there are risks attached to it. A very

likely possibility is that of capital flight at the first sign of an internal economic

problem.

The short-term capital flights termed as “hot money” transfers can destabilize an

economy unless precautionary or counter measures are taken to achieve stability.

Speculative activities may increase under free convertibility, making the exchange

rates highly volatile. Speculation can lead to depreciation of currencies & flight of

capital. This is proved by the experience of the South East Asian countries like

Thailand, Malaysia, in the year 1997-199, which experienced 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. Though the

rupee is not freely convertible on the capital account, in certain transactions full

convertibility prevails.

For example, 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 exposes the country India to the volatility of the world financial system. The rupee

can possibly become more volatile.

That said, there are infinitely more merits than demerits to going becoming

convertible on the capital account. The 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 become world class financial system, the it can easily manage

volatility can be managed without any problem.


5) EXTERNAL AND INTERNAL CONVERTIBILITY

When all holdings of the currency by non-residents are freely exchangeable into any

foreign (nonresident) currency at exchange rates within the official margins than

that currency is said to be externally convertible.

All payments that residents of the country are authorized to make to non-residents

may be made in any externally convertible currency that residents can buy in foreign

exchange markets.

If there are no restrictions on the ability of a country to use their holdings of

domestic currency to acquire any foreign currency and hold it, or transfer it to any

nonresident for any purpose, that country’s currency is said to be internally

convertible.

Thus external convertibility is the partial convertibility and total convertibility

is the sum of external and internal convertibility.


6) TYPES OF CURRENCY CONVERTIBILITY

1. Capital Account Convertibility :-

Currency convertibility refers to the freedom to convert the domestic currency into

other internationally accepted currencies and vice versa. Convertibility in that sense

is the obverse of controls or restrictions on currency transactions. While current

account convertibility refers to freedom in respect of ‘payments and transfers for

current international transactions’, capital account convertibility (CAC) would mean

freedom of currency conversion in relation to capital transactions in terms of inflows

and outflows. Article VIII of the International Monetary Fund (IMF) puts an

CURRENCYCONVERTIB

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CURRENT ACCOUNT CONVERTI

BILITY

CAPITAL ACCOUNT CONVERTI

BILITY


obligation on a member to avoid imposing restrictions on the making of payments

and transfers for current international transactions. Members may cooperate for the

purpose of making the exchange control regulations of members more effective.

Article VI (3), however, allows members to exercise 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.

Advantages of CAC

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

The freedom to trade in financial assets.

Difficult for a country to follow unwise macroeconomic policies.

Tax levels would move closer to international levels .

It will grow competition among financial institutions.

Disadvantages of CAC

It could lead to the export of domestic savings.

Expose the economy to larger macroeconomic instability.

Premature liberalization could initially stimulate capital inflows that would

lead to appreciation of real exchange rate and thereby destabilize an economy

undergoing the fragile process of transition and structural reform.

It may bring low quality investment .

It may generate the financial bubble.


2. Current Account Convertibility :-

Current account convertibility allows residents to make and receive trade-related

payments, i.e. receive foreign currency for export of goods and services and pay

foreign currency for import of goods and services like travels, medical treatment and

studies abroad. Current 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 export 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.

Current account convertibility refers to freedom in respect of Payments 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. As 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.

The government introduced a system of Partial Rupee Convertibility (PCR) (Current

Account Convertibility) on February 29,1992 as part of the Fiscal Budget for 1992-

93. PCR is designed to provide a powerful boost to export as well as to achieve as

efficient import substitution. It is designed to reduce the scope for bureaucratic

controls, which contribute to delays and inefficiency. Government liberalized the

flow of foreign exchange 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. What it means that people are allowed to have access to

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

Current account convertibility is popularly defined as the freedom to buy or sell

foreign exchange for:-

a. The 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. Payments due as interest on loans and as net income from other investments

c. Payment of moderate amounts of amortization of loans for depreciation of

direct investments

d. Moderate remittances for family living expenses

e. Authorized Dealers may also provide exchange facilities to their customers

without prior approval of the RBI 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.


7) NONCONVERTIBLE CURRENCY

Also known as a "blocked currency".

Any currency that is used primarily for domestic transactions and is not openly

traded on a forex market. This usually is a result of government restrictions, which

prevent it from being exchanged for foreign currencies.

As the name implies, it is virtually impossible to convert a nonconvertible currency

into other legal tender, except in limited amounts on the black market. When a

nation's currency is nonconvertible it tends to limit the country's participation in

international trade as well as distort its balance of trade.

A barrier to economic development arising from a nation’s inability to convert its

currency on foreign exchange markets, thus its inability to acquire the foreign capital

it needs to achieve improvements in productivity, income and human welfare among

its people.

Almost all nations allow for some method of currency conversion; Cuba and North

Korea are the exceptions.

They neither participate in the international FOREX market nor allow conversion of

their currencies by individuals or companies. As a result, these currencies are known

as blocked currencies; the North Korean won and the Cuban national peso cannot be

accurately valued against other currencies and are only used for domestic purposes

and debts.

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Such nonconvertible currencies present a major obstruction to international trade for

companies who reside in these countries.

Convertibility is the quality of paper money substitutes which entitles the holder to

redeem them on demand into money proper.


8) HOW IT WORKS IN INDIA?

Capital and current account convertibility in pretext to Indian economy.

The Committee, chaired by former RBI governor S S Tara pore, was set up by

the Reserve Bank of India in consultation with the Government of India to

revisit the subject of fuller capital account convertibility in the context of the

progress in economic reforms, the stability of the external and financial

sectors, accelerated growth and global integration. Reserve Bank of India, and

will have the following terms of reference:

Undertake a review of the extant 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.

Examine existing repatriation/surrender requirements in the context 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.

Ensure that guidelines and regulations are consistent with regulatory intent.


Review the delegation of powers on foreign exchange regulations between

Central Office and Regional offices of the RBI and examine, selectively, the

efficacy in the functioning of the delegation of powers by RBI to Authorized

Dealers (banks).

9) RUPEE CONVERTIBILITY


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

currency without any limitations or any control. A currency is said to be fully

convertible, if it can be converted into some other currency at the market price of

that currency. Convertibility can be related as the extent to which a country's

regulations allow free flow of money into and outside the country.

For instance, in the case of India till 1990, one had to get permission from the

Government or RBI as the case may be to procure foreign currency, say US Dollars,

for any purpose. Be it import of raw material, travel abroad, procuring books or

paying fees for a ward who pursues higher studies abroad. Similarly, any exporter

who exports goods or services and brings foreign currency into the country has to

surrender the foreign exchange to RBI and get it converted at a rate pre-determined

by RBI.

At present, Indian rupee is partly convertible on current Account. That is

convertibility in the case of transactions relating to exchange of goods and services,

money transfer.

In 1997, the Tara pore committee on capital Account convertibility was constituted

by the Reserve Bank. This committee indicated three preconditions for capital

Account convertibility, they are Fiscal consolidation, a mandated inflation target,

strengthening of the financial system.

During March 2006, Prime Minister said that India is moving towards fuller capital

account convertibility. In response to this the Reserve Bank of India set up the Tara

pore Committee 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. Can incur

expenses abroad using the credit card and pay for the dollars (or pounds, or euro’s)

expanded in rupees.

This helps to invest in specified foreign shares and mutual funds. And also it attracts

many foreign tourists, which can be contributed to the GDP.

Therefore, fuller convertibility of Indian rupee helps to attract FDI and also helps

Indian's to invest abroad.

After the economic liberalization process started in India in 1991, a Liberalised

Exchange Rate Mechanism was introduced in 1992.This allowed partial

convertibility of Indian rupee, thus introducing dual exchange rate. After that full

convertibility on trade account started from 1993.It was followed by Full

convertibility on current account from 1994.However after the Mexico crisis in early

1990s or the mammoth East Asia Crisis where there was sudden flow of capital

internationally debilitating the economies of the involved nations, India was

reluctant to adopt capital account convertibility.

However the Tara pore committee, appointed in 1997, recommended phased

implementation of capital account convertibility with certain prerequisites like fiscal

deficit to be 3.5% of GDP,CRR to be brought down to 3%, gross NPA of public

sector banks to be 5% of the total assets, inflation rate to be around 3.5%.The

committee was reappointed almost a decade later and submitted almost the same

recommendations with some modifications.

It must be remembered that the movement towards fuller CAC should be a process


and not an event. Macroeconomic stability is a must before achieving full CAC. Any

adhoc arrangement from the fixed regime maintained for a long period of time might

disturb the foreign exchange market and disrupt the economic progress.

At present, Indian rupee is partly convertible on current Account. That is

convertibility in the case of transactions relating to exchange of goods and services,

money transfer.

Convertibility of rupees is known as freedom of exchange of rupee with other all

international currency. It means that rupee can covert in USA dollars more easily

and USA dollars can convert in Indian currency for buying and selling of goods and

services. after study everything, I am writing, "it is conspiracy to lower the value of

Indian currency that in real sense. In 1996, there were just Rs. 38 for every one

dollar but after liberalized convertibility of rupee, one dollar exchange rate has

reached up to Rs. 45 in 17th Jan. 2011. When convertibility of Rupee was started, it

was claimed that our export will increase because our Indian companies will easy to

trade in foreign country due to easy exchange without any govt. restriction. But, it

opens doors for importing useless things and moreover it is very sad for India that

gold is not make as standard exchange currency. China is smart than India, under

his new foreign exchange policy, convert all his foreign exchange in gold. Now, his

Chinese yuan is equal to Indian Rs. 6.89.

RUPEE AS A CONVERTIBLE CURRENCY:-

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http://www.svtuition.org/2010/04/foreign-exchange-policy-of-china.html


The recent decision of the government to have full convertibility of the Indian Rupee

which will affect everyone in the country but is remotely understandable by a few, is

one such important decision, which is designed to please the international financial

institutions and the 10 percent of the population of India who are either rich or of

upper middle class.

It is essential to judge a policy by examining both the costs and benefits of it. The

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.

The 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 taxes

but the effectiveness of this control according to the international experiences is

uncertain.

9.1) HISTORY OF RUPEE CONVERTIBILITY


Up to 1991, when India faced a major foreign exchange crisis, there had been

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

Current account convertibility was introduced in India in August 1994.

After start of liberalization in1991, India had accepted the IMF rules for

currency reforms.

In 1997 the government had set up a committee (Tarapore committee) to spell

out a road map for the full convertibility of the rupee.

Committee suggested three phases of adopting full convertibility of rupee in

capital account.

First phase in 2006 -2007

Second phase in 2007-2009

Third phase in 2009- 2011

9.2) ADVANTAGES OF RUPEE CONVERTIBILITY


The 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).

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 Hawala business.

Indians who have not paid their taxes or repaid their loans taken from the Indian

banks will be free to transfer their money to foreign countries outside the jurisdiction

of the Indian authority.

The expected benefits for India would depend on the attractiveness of the country as

a safe destination for short-term investments. Long-term investments do not depend

on convertibility.

China has no convertibility, instead a fixed exchange rate for the last 12 years. Yet,

China is the most important destination for long-term foreign investments. Thus,

discussions about the full convertibility should be about the desirability of short-

term investments and their implications.

Short 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 of payments 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, Rs.150,000 Crores of uncollected taxes

and Rs.120,000 Crores of unpaid loans in the banks, increasing price of petroleum

and increasing balance of payments deficits of the country. With 80 percent of

people live on less than 2 dollars a day, and 70 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 continuous

profit, short-term investments will fly out very easily if there is any sign of

economic downturn when there is a fully convertible Rupee. The result will be

further increase in the balance of payments deficits and fall of the exchange rate of

Rupee, which will provoke Indians to take their money out of India.

Another advantage of full convertibility of Rupee 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 British Raj. 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.

9.3) DISADVANTAGES OF RUPEE CONVERTIBILITY


Full convertibility also has adverse consequences for the India’s domestic producers

of these raw materials and machineries, as they have to compete against foreign

suppliers who like Chinese may have deliberate low rate of exchange 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. Agricultural exports from Europe, USA, Thailand, and Australia can ruin

India’s own agriculture.

There are many such historical examples in India. Within 20 years between 1860

and 1880, India’s domestic manufacturing industries were wiped out by free trade

and convertible Rupee during the days of British Raj. Indian farmers during those

days could not cultivate their lands, as the imported food products were cheaper than

whatever they could produce. Demonstration of wealth by the Nawabs and

Maharajas of India in Paris and London during the days of British Raj has not done

any good for starving millions of India but was responsible for massive misuse of

India’s foreign currency reserve created by the sweat and blood of the India’s poor

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

days.

The freedom for India’s 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. This would amount to export of jobs to foreign countries

creating more and more unemployment at home. Japan in recent years suffers from

this phenomenon, where increasingly Japanese companies are transferring funds to

China for investments, taking advantage of the very low wage rate and low exchange

rate of Yuan, thus creating unemployment at home. Although China has massive

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

foreign investments, a non-convertible Yuan and controls on transfer of money have


kept China’s exchange rate low enough so that Chinese goods can capture the

markets of every important country of the world.

The most dangerous consequence of convertibility is that Rupee will be under the

control of currency speculators. A fully convertible regime for the Rupee will

certainly include participation of Rupee in the international currency market and in

the ‘future market’ of Rupee, the playground for the international speculators. It is

very much possible for the speculators to buy massive amount of Rupee to drive up

its exchange Rate.

9.4) PARTIAL CONVERTIBILITY OF RUPEE


Partial convertibility of Rupee was started in 1992 for current account. In simple

word, there is no control of Indian currency official. Any foreign company can do

business and can go to his country with this profit after exchanging all Indian

currency in their foreign currency. For example, According to its Directors’ Report,

a public document filed with India’s Registrar of Companies, “Google India Private

Ltd” reported revenues of Rs. 779.34 crore (around $172.03 million at current rates),

over the 15 month period from Jan 2009 to March 2010. For the same period, it

reported a profit after tax of 97.96 crore ($21.62 million), and received foreign

exchange of Rs. 666.25 crore, with a foreign exchange out go of Rs. 304.24 crore. In

this, example, 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. Suppose, if India has not

USA dollars for exchanging Rs. 304.24 crore to Google India Pvt. Ltd, at that time,

India has to take loan of same USA Dollars from USA and will pay interest on it.

So, it will increase adverse balance of payment.

It is true, with partial convertibility of Rupees, 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. All companies think the benefit of their residential

country from where they are operating their business. So, for India's interest, we

have to make some strict rules for stopping outflow of fund on the name of

convertibility of rupee or liberalization.

The rupee has arrived. Long before the domestic currency gets the `convertible’ tag,

it’s being freely accepted and exchanged in Singapore, Malaysia, Indonesia, Hong


Kong, Sri Lanka and other countries. Till now, such transactions were confined to

select departmental stores which are favourite of Indian tourists; now more and more

shops, hotels and even money changers are willing to accept the local legal tender.

This means no double conversions, and therefore, extra cost while exchanging

Indian rupees. This may not be quite legal since in the international money market,

the rupee is still not a deliverable currency. Nonetheless, 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 cheques. In most Asian countries, the nearest

`money exchange’ shop will give them the local currency against rupees. Many feel

the trend has picked with hints that convertibility may be matter of time.

Travel agents, in India, say that since many Indians are travelling abroad, especially

to Asian countries, many banks and foreign exchange agents abroad have started

accepting Indian rupees. Tarmo Wong, a manager with `money exchange’ shop in

one of the biggest hotels in Singapore, said, “We have orders to accept the Rs 500

and Rs 1,000 bills. We have been doing this for almost 6-8 months now.” Some of

the `money changers’ in Singapore have a similar view.

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

become finer for the Indian traveler or the business tourist. Earlier, a handful of

outfits accepted the Indian rupee and usually the buy/sell spread was high.

Most travelers (even today) convert their rupees in US dollars in India and then

exchange them again in local currencies of countries they visit. The cost of such


double conversion could be as high as 5%. Prakash Dagia, a regular business

traveler to countries like Indonesia, Bangladesh and Malaysia, said, “In the past few

months, the rupee has gained acceptance in almost all countries in Asia. The best

part is you can exchange it back to Indian rupees when you’re flying back to India.”

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

buy dollars you need over the counter. Partial currency convertibility already exists

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. Currency

convertibility refers to the absence of any restriction on the holding of foreign

currencies by residents and of the national currency by foreigners, and on free

conversion between currencies. It does not preclude restrictions on the type and

quantity of non-currency assets that residents can hold abroad or foreigners can hold

in the country.

9.5) FULL CONVERTIBILITY OF RUPEE


The Prime Minister, Dr. Manmohan Singh in a speech at the Reserve Bank of India,

Mumbai, on March 18, 2006 referred to the need to revisit the subject of capital

account convertibility. To quote:

“Given the changes that have taken place over the last two decades, there is merit in

moving towards fuller capital account convertibility within a transparent

framework…I will therefore request the Finance Minister and the Reserve Bank to

revisit the subject and come out with a roadmap based on current realities”.

Convertible currencies are defined as currencies that are readily bought, sold, and

converted without the need for permission from a central bank or government entity.

Most major currencies are fully convertible; that is, they can be traded freely without

restriction and with no permission required. The easy convertibility of currency is a

relatively recent development and is in part attributable to the growth of the

international trading markets and the FOREX markets in particular. Historically,

movement away from the gold exchange standard once in common usage has led to

more and more convertible currencies becoming available on the market. Because

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 an opportunity for profit.

The U.S. dollar is an example of a fully convertible currency. There are no

restrictions or limitations on the amount of dollars that can be traded on the

international market, and the U.S. Government does not artificially impose a fixed

value or minimum value on the dollar in international trade. For this reason, dollars

are one of the major currencies traded in the FOREX market.


Although the Minister of Finance had indicated during his presentation of the 1992-

93 Budget that full convertibility of the rupee would be introduced in a span of 3 or

4 years, full convertibility was announced much earlier and in fact it is the highlight

of the 1993-94 Budget.

There 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 U.K., U.S.A. etc. In developed countries, full convertibility means

that their currency is freely convertible anywhere in the world. Their home currency

can be converted into foreign currency without any restriction. One does not have to

disclose even the purpose of such conversion. For instance, U.S. Dollars can be

changed into Sterling Pounds in New York, Japanese Yen could be exchanged to

Deutsche Marks in Frankfurt, Australian Dollars can be converted into Candian

Dollars in Adelaide etc., The exchange rate is controlled by the position of supply

and demand in the market.

The full convertibility announced in the Union Budget of 1993-94, however, allows

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

of sale proceeds of exports, paid for imports and the remittance by NRIs etc., alone

are convertible at market determined rates.

In the last year's Budget, a dual exchange rate was announced i.e., 60% at market

rates and 40% at the official rate. In the current Budget, the dual exchange rate has

become a unified exchange rate which is a 100% conversion of foreign exchange at

market rate. This is described as Full Convertibility. This does not mean that one can

get any amount of foreign exchange at market rate for meeting any of one's needs.

The Reserve Bank of India will permit sale of foreign exchange currency to anyone

only for those purposes which are stipulated by the Govt. of India. It does not permit


conversion of one's savings in the country for investment in foreign countries, as

could be done by the citizens of developed countries like the U.K. or U.S.A. For

instance, if a citizen resident in India wishes to undertake a foreign travel, the

exchange for such travel can be had only as per the norms prescribed by the Govt.

under the Foreign Travel Scheme. Full convertibility of the Rupee we have adopted

for our country is tied up with exchange controls and restriction envisaged by the

provisions of the F.E.R. Act 1973 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. The New

Economic Policy ushered in by out Govt. 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 Customs

and Central Excise duties, relaxation of Import / Export restrictions, streamlining of

procedural rules governing taxations, streamlining of procedural rules governing

taxation laws etc.,. have opened out our economy with a view to expansion and

globalisation of our trading activities. These are measures taken to move India

forward in her march towards economic freedom.


10) CONCLUSION

The volatile nature of capital inflow presents an alarming trend. Liberalizing capital

control may lead to huge dependence on foreign portfolio capital. Need is to

channelize the capital flow.

As recognized in the recent Tara pore Committee Report, financial institutions’

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

instruments to manage risk, the liquidity of financial markets and the quality of

market infrastructure, and level of market discipline. Key segments of the Indian

capital markets remain, however, underdeveloped. The term money market is

limited and although there is a domestic yield curve for government securities with

maturities up to 30 years, its depth and liquidity are limited.

The Govt. had however stated that if the value of the rupee depreciates to an

unreasonable level in the free market operations, the R.B.I. will intervene and

control it. This assurances certainly gives credence to the earnestness and sincerity

with which the full convertibility has been announced.

Currency convertibility

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