The Hindu Business Line : Capital Account Convertibility — Right road, but best with speed-breakers

With foreign investors investing their money on the Bombay Stock Exchange and Indian companies acquiring foreign assets with foreign capital, full rupee convertibility seems the way to go now. But there is need for careful monitoring of the inflows and their end-use as, otherwise, India could invite trouble like the East Asian and Latin American countries.

THE Government is slowly but surely making the rupee freely convertible. Indian companies can now make foreign investments, and Indians can make foreign remittance up to $25,000 per year and invest abroad — no questions asked.

This is fine as long as the rupee is rising and the Indian investor has no incentive to remit his capital abroad. Convertibility will enable India conquer the world economy by making foreign investments.

The Indian businessman has to be given the freedom to invest in other countries. However, convertibility can become a bother if the economy is on a downslide. It will then become possible for investors — both Indian and foreign — to exit the rupee and the currency could take a tumble a la the Argentine peso or the Thai baht. A small crisis can assume grand proportions.

India should secure the gains of convertibility while avoiding its dangers. The balance of gain and loss will depend critically on the US economy. Till recently, technological innovations, such as personal computers, genetically-modified seeds, developments in software, and Internet application and telecommunications happened in the US every five years or so.

Companies that pioneered such innovations such saw their share prices rising. This led to the flow of world capital into the US stock marketwhich, in turn, led to increased demand for dollars. The dollar rose and as a reflection the rupee fell. The price of one dollar was Rs 15 in 1991 and Rs 49 two years ago. It was profitable for Indian businessmen to send their capital to the US in that situation. They got huge dividends from the profits of companies in which they had invested.

They would also benefit from the rising value of the dollar. Say, an Indian investor purchased one Microsoft share in 1991 for $1 or Rs 15. The same share valued at $1 would have got him Rs 49 because the value of the dollar had risen. Had the rupee been made convertible then, there was a great possibility of Indian investors sending their money to the US.

For long, agencies such as the IMF have been asking the New Delhi to make the rupee fully convertible. India rightly resisted that pressure because that would have led to flight of capital.

The US would have gained by getting the money. Convertibility has led to crises in East Asia, Korea, Russia, Turkey, Mexico, Brazil and Argentina. All these countries succumbed to the pressures by the US-based agencies to make their currencies convertible. They were told that this would help bring foreign capital to their shores. But the real objective was that the US would get the capital from these countries for its consumption and investment. . The situation has changed dramatically since. Technological innovations in the US are in a limbo. American companies are under pressure. They are unable to pay high wages because of the pressures of globalisation. They are transferring their businesses — even core activities like research — to India. Outsourcing is becoming all-pervasive.

The pressure on American companies is pulling down the value of their shares. Global investors are selling their dollar-denominated securities and buying the yen, euro and even the Indian rupee.

World capital is ready to fly out of the US. The dollar is falling and correspondingly the rupee is rising. The dollar was selling for Rs 49 two years ago. Today it is available for Rs 45. The dollar's sun is setting. Why would an Indian invest his money in the US in this situation? On the contrary, it is becoming profitable for the US investor to invest in India. It will be the fitness of things to make the rupee fully convertible to benefit from the situation. It is profitable for the Indian investor to keep his money in India because the rupee is rising. Indian companies have now acquired the ability to face global competition.

The Government should encourage Indian companies to invest abroad to conquer the world economy. The situation till recently was that Indian capital was taking off to the US illegally. The US companies were taking loans from the American banks, which were lending money deposited with them by Indian investors. Now the tables have turned. Foreign investors are investing their money on the Bombay Stock Exchange. Indian companies have access to foreign borrowing. Indian companies are acquiring foreign assets with foreign capital. The full convertibility of the rupee is the right way to go now.

But there is at the same time need for constant vigil. For the circumstances can change any time. he rupee may decline and the dollar rise. India should keep options open such that is not difficult to impose restrictions if the currency conditions turn adverse.

Sans careful monitoring of the inflows and their end-use, India could be inviting trouble like the East Asian and Latin American countries.

(The author, a freelance writer, can be contacted at: bharatj@nda.vsnl.net.in)