Current account convertibility implies the liberty to make payments and transfers for ongoing international transactions. Currency convertibility, on the other hand, entails the freedom to exchange domestic currency for other globally recognized currencies and vice versa. Current account convertibility specifically grants the freedom to convert domestic currency into foreign currency and vice versa, facilitating the conduct of trade in both tangible goods and invisibles.
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Current Account Convertibility and its Advantages
Currency Convertibility
Currency convertibility signifies the ability to freely convert a country’s currency into foreign exchange at a market-determined exchange rate, determined by the demand and supply of different countries’ currencies. In India, commercial banks primarily act as dealers in exchange, facilitating the conversion of one country’s currency into another. Currency convertibility, therefore, allows individuals to convert Indian rupees into any desired currency.
Currency convertibility is classified into two types:
- Current Account Convertibilit.
- Capital Account Convertibility
This discussion focuses on current account convertibilit.
Current Account Convertibility
Current account convertibilit. permits unrestricted inflows and outflows for all purposes except for capital-related activities. Capital purposes involve foreign currency investments, obtaining loans in foreign currency, and acquiring plant and machinery from abroad through payments in foreign exchange. Current account convertibilit. enables currency conversion for trade-related purposes, foreign studies, medical treatment, and the purchase of goods and services unrelated to capital.
Current Account Convertibility in the Indian Economy
As part of economic reforms initiated in 1991 and thereafter, the Government of India took steps to allow partial convertibility of the rupee into foreign currency under the Liberalized Exchange Management Scheme. This scheme allowed 60% of all receipts on the current account to be freely converted into rupees at market-determined exchange rates, with the remaining 40% to be surrendered to the Reserve Bank of India at rates determined by it. This 40% was designated for fulfilling government foreign exchange needs and making payments for essential commodity imports, creating a dual exchange rate system.
In 1993, the government further progressed by allowing full current account convertibilit, enabling the complete conversion of foreign receipts on the current account into Indian rupees.
Advantages of Current Account Convertibility
- Facilitates Free Transfer of Foreign Earnings to India: Current account convertibilit. simplifies the process of receiving and converting earnings sent by family members working abroad, eliminating complex procedures.
- Enhances International Trade: By facilitating smoother exchange of foreign exchange into domestic currency and vice versa, current account convertibilit. promotes international trade relations, fostering integration among countries and removing exchange barriers.
- Fair Rates for Imports and Exports: Current account convertibilit. allows imports and exports to be conducted at fair rates determined by the market, eliminating the need to surrender foreign exchange receipts or convert them into Indian rupees at predetermined, less favorable rates set by the RBI.
FAQ
Current account convertibilit. refers to the freedom in payments and transfers for current international transactions. It allows for the conversion of domestic currency into foreign currency and vice versa for executing trade in goods and invisibles.
Currency convertibility is categorized into two types: current account convertibility and capital account convertibility.
Current account convertibility permits free inflows and outflows for all purposes other than those related to capital. It covers activities such as trade, foreign studies, medical treatment, and the purchase of goods and services unrelated to capital
In India, current account convertibilit. was introduced as part of economic reforms. Initially, under the Liberalized Exchange Management Scheme, 60% of receipts on the current account