pacific money | Economy | South Asia
Even as India-Russia energy trade experienced significant growth, the rupee-ruble system failed to gain the traction that was expected.
India and Russia recently decided stop the talks on the revival of the Soviet-era rupee-ruble currency exchange mechanism after both sides failed to resolve initial problems that hampered its successful implementation.
In the aftermath of Western sanctions and Russia’s suspension of the SWIFT banking messaging network, rupee and ruble trading was presented as a credible platform that would solve prevailing bottlenecks in cross-border transactions by allowing trade settlement in rupees or rubles. However, even as India-Russia energy trade experienced significant growth, the rupee-ruble system failed to gain the expected traction. It was clouded by four key issues.
First, Western sanctions on Russia have deterred the Indian banking system from doing business with Russia. Although India has not supported the Western Russia sanctions regime, Indian banks are heavily dependent on SWIFT and Western financial infrastructure and seek to avoid potential sanctions. Indian banks are therefore cautious on clearing payments with Russia. This has also had a negative impact on rupee and ruble trading: Indian banks are reportedly refusing to process payments to Russia through special Vostro rupee accounts created for this purpose.
Second, the repatriation of funds has been a contentious issue for Russian exporters trading with India. Facing a liquidity crisis at home, Russian companies prefer to receive a fair share of their export earnings directly from India rather than invest in the Reserve Bank of India (RBI). prescribed underperforming government securities. With a bilateral trade deficit of $38 billion, India’s foreign exchange reserves also come under pressure when excess balances are allowed to be converted from rupees and remitted to Russia. While the RBI has generally allowed repatriation in the international rupee settlement mechanism, its implementation with respect to Russia is ambiguous and uncertain.
Third, the growing influence of the Chinese yuan over the Russian ruble and its potential to spill over into rupee-ruble trade had kept India concerned. As part of its new strategic relationship with China, Russia has been entrepreneur for the yuan as its reference currency to settle international trade payments, including those with India. As China’s territorial and hegemonic adversary, India has refused to settle payments in yuan to avoid exposing its volatile currency market to a highly regulated Chinese currency. However, Russia was able to conduct yuan transactions with India on some occasions.
Fourth, the lack of a direct currency exchange rate has made it difficult to bill and settle trade through the rupee-ruble trade. Since the rupee and ruble are partially convertible currencies and have been volatile against the dollar, India and Russia have been wary of fixing a market exchange rate and have instead resorted to double currency conversion. : Indian rupees are converted to the dollar and then to the ruble, or vice versa. The drawback is that double currency conversion not only exposes both countries to exchange rate risk, but also makes transactions more expensive due to additional handling costs.
Challenges in getting the rupee-ruble mechanism operational have been a major hurdle for India and Russia to boost bilateral trade. Apart from a few cases where payments from Russia were settled in rupees, Emirati dirham, and the yuan, the dollar remains the resource currency for settling trade payments between the two countries, but not for long. Therefore, there is a need for Russia and India to be creative and “invent something new” to overcome transactional risks and promote business relationships.
One option is for India to implement a split currency exchange system with Russia similar to its old rupee trade with Iran, where only 45 percent of oil settlements they were paid in rupees and the rest in euros through banks in Turkey. In the case of Russia, India can pay a part in rupees and the rest in other preferable currencies like dirhams through banks in the United Arab Emirates (UAE). By lowering the payment rate, Russia can temporarily have liquidity security and will not be affected by the accumulated rupee balances in their Vostro accounts.
Another option is for India and Russia to explore creating a separate financial architecture to exclusively facilitate rupee and ruble trading, which could replace the SWIFT messaging system. Local alternatives such as Russia’s SPFS or India’s Structured Financial Messaging System (SFMS) can be studied and put into practice. Since SFMS is restricted to domestic transactions within India, Russia’s SPFS network will be a more reliable and feasible option as it has been operational since 2014. That being said, Russia may have to set up a dedicated network fintech company based in India to allow Indian banks to take advantage of SPFS technology and avoid potential penalties.
Finally, India and Russia may also approach the United Arab Emirates to explore a trilateral rupee settlement mechanism where payments could be settled on a net basis, similar to the Asian Clearing Union. The advantage of the United Arab Emirates is that it is not only one of the largest trading partners of India, but also recently became the trading partner of Russia. main commercial destination in the Middle Eastwitnessing a 68 percent growth in trade with Russia in 2022. The United Arab Emirates already in talks with India to implement a rupee deal for bilateral trade, and the scope of a trilateral partnership will only further mutual goals.