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[Global Times Pakistan correspondent Yao Xiao, Global Times reporter Chen Zishuai and Liu Zhi] The Reserve Bank of India recently asked banks doing business with the UAE to use Indian rupees and UAE dirhams to directly settle part of the trade payments. Several Russian and Indian media reported last week that the Central Banks of India and Russia have restarted negotiations to expand the local currency settlement mechanism. Foreign media said this is a new move by India to reduce its reliance on the US dollar.

Shaktikanta Das, Governor of the Reserve Bank of India (Visual China)

India's central bank puts forward new requirements

According to Reuters, the Reserve Bank of India requires banks to find matching dirham funds from other banks when making payments to the UAE, avoiding banks from exchanging Indian rupees for dollars and then dollars for dirhams in the international foreign exchange market. Reuters said that the process is still in its infancy and the Reserve Bank of India has not yet proposed a mandatory target, but continues to encourage the formation of a rupee-dirham foreign exchange market and requires banks to regularly report the amount of such payments.

According to the United Nations Commodity Trade Statistics Database, the UAE is India's third largest trading partner, with total trade between the two countries exceeding US$80 billion in 2023. The UAE mainly exports crude oil to India, while India exports some refined chemical products and electrical appliances to the UAE. Previously, the UAE had a long-term trade surplus with India, but after the outbreak of the Russian-Ukrainian conflict in 2022, Russia replaced the UAE as India's main crude oil supplier. This has reduced the imbalance in trade between India and the UAE. However, there is still a great demand for direct currency settlement between India and the UAE. According to the Times of India, a large number of Indian workers and professional and technical personnel work in the UAE, and a large amount of remittances need to be transferred from the UAE to India every year. In addition, India will also purchase Russian oil through oil traders in the UAE, which also involves settlement in the local currencies of the two countries to avoid possible sanctions.

In July 2023, after Indian Prime Minister Narendra Modi visited the UAE, the two countries agreed to establish a framework for cross-border trade in local currencies and develop a local currency settlement system to replace the Society for Worldwide Interbank Financial Telecommunication (SWIFT) payment system. Since then, the Reserve Bank of India has allowed UAE banks to open special rupee accounts in Indian banks for trade settlements and encouraged importers and exporters to trade directly in rupees and dirhams. That month, India conducted crude oil transactions with the UAE in rupees for the first time. However, it has been reported that multiple evidence shows that such transactions have not been carried out continuously.

India Today believes that local currency settlement between the two countries can help develop the rupee-dirham foreign exchange market and bring new opportunities to India's financial industry. It may also set a precedent for India to conduct bilateral local currency settlement with other countries, exploring the possibility of internationalizing the rupee and reducing dependence on the US dollar. In addition, the flow of funds settled in local currency is more easily regulated by the Reserve Bank of India. Encouraged by the Reserve Bank of India, some banks have begun to promote local currency settlement through measures such as discounted service fees, attracting some small and medium-sized traders to convert the system. However, companies with larger balance sheets lack the motivation to convert, so the current trading volume is still not high.

New Delhi takes several measures

Recently, India has taken a number of measures to promote the internationalization of the rupee. In May 2024, the Reserve Bank of India released an annual report mentioning that the central bank allows banks to open rupee accounts abroad for non-Indian residents and provide rupee loans. In the future, the Reserve Bank of India will further relax regulatory measures on non-resident rupee accounts and promote foreign direct investment and foreign equity investment.

According to the Russian newspaper Kommersant, the central banks of India and Russia have restarted negotiations to expand the local currency settlement mechanism, aiming to solve payment problems after the surge in bilateral trade in recent years. Russian experts said that this negotiation is not easy due to Western sanctions and pressure. Halina, an associate professor at the Russian Higher School of Economics, said that the agreement between the central banks of Russia and India on the basic exchange rate is a convenient mechanism that helps the two countries settle transactions in non-US dollar currencies. She said: "This will have a positive impact on trade between the two countries and help overcome sanctions barriers and reduce dependence on the US dollar." Seleznev, dean of the School of International Economic Relations at the Russian University of Finance and Economics, said that both Russia and India understand that the settlement of such transactions must be free from the control and supervision of the US Treasury.

“Rupee is not a hard currency”

Lin Minwang, deputy director of the South Asian Research Center of Fudan University, told the Global Times on the 18th that the Reserve Bank of India requires some countries with trade surpluses with India to use rupees for settlement as much as possible, with the goal of promoting the internationalization of the rupee. Last year, India required some South Asian countries to use rupees for payments, and now it has expanded to larger trading partners such as the UAE and Russia, with which India has a large trade deficit. The core reason why India emphasizes the use of local currency for settlement is that it hopes to reduce its dependence on and use of the US dollar. Part of the reason for India's economic difficulties in the past few times was the shortage of US dollar reserves.

However, India's efforts to promote local currency settlement also face considerable challenges. The Hindu said that the exchange rate of the dirham against the US dollar has remained stable for a long time, while the rupee has continued to depreciate, and there are also large differences in the changes in interest rates between the two countries. The local currency settlement system can be used in the short term and within a small transaction volume, but the complex situations that may arise in the long-term and large-scale use will be difficult to predict. In addition, considering that the UAE is still in a trade surplus position, if the two sides continue to use local currency settlement, the Indian rupees held by UAE banks will increase. The last time the two countries signed a currency swap agreement was in 2018, and the swap amount was about US$500 million, which is much smaller than the current trade gap between the two countries. To solve this problem, it is necessary to help the UAE find investment channels in India with sufficient profits to consume the rupees they receive. In May 2023, Russian Foreign Minister Lavrov said at the SCO Foreign Ministers' Meeting held in Goa, India that Russia has accumulated billions of rupees in Indian banks, but these money can neither be converted into other currencies nor effectively purchase goods. The Hindustan Times previously reported that Russia is solving this problem by investing in India.

Lin Minwang said that India faces great difficulties and challenges in promoting the internationalization of the rupee. On the one hand, India itself is not a major global trade and manufacturing country, which means that the rupee is not a hard currency in the international market. Countries holding a large amount of rupees can neither buy any goods from India nor spend them. On the other hand, the rupee exchange rate is not stable enough. If a large amount of rupees is hoarded, it will be easily affected by the international market. From the data fluctuations of the rupee in the past few years, it can be seen that it is greatly affected by the US dollar and cannot be compared with currencies such as the RMB and the euro.