Partial and Full Convertibility of Rupee

This term is with reference to balance of payment and conversion of domestic currency into foreign currency and vice versa. Partial convertibility refers to the freedom to convert domestic currency into foreign currency and vice versa for restricted purposes. In India, there is partial convertibility as there are restrictions on capital account transactions, though the rupee is fully convertible in the current account. The above mentioned Liberalized Exchange Rate Management System (LERMS) introduced a dual exchange rate system. This is also called as partial convertibility of rupee.

The convertibility of a currency has different meanings in different times. In existing standards, it means that the country’s currency becomes convertible in foreign exchange and vice versa. The Convertibility of Rupee gives the indication of the real value of rupee, hence called floating of Rupee. Full Convertibility of Rupee encourages the exports by increasing the profitability of the exports, as the free market rate is higher than the official rate. Further, it is seen the convertibility of the Rupee and liberalization of Gold imports has made the illegal remittances and gold smuggling less attractive.

Partial Convertibility of Rupee was introduced in March 1992. Under the partial convertibility of Rupee, dispensation of 40% of the Foreign exchange had to be surrendered to the Reserve Bank of India at the official rate and balance 60% of the foreign exchange had to dispose-off by the exporters at the market rate. As expected, the market rate was higher than the official rate. The Partial convertibility of Rupee is known as Dual exchange system. At that time, India’s current account was showing large deficit so it was risky to introduce the full convertibility of Rupee. The major objective of the partial convertibility of Rupee was to “make the foreign exchange available at a low price for essential imports so that the prices of the essentials are not pushed up by the high market price of the foreign exchange”.

Current account convertibility is the next phase for attaining full convertibility of rupee. Current account convertibility relates to the removal of restrictions on payments relating to the international exchange of goals, services and factor incomes, while capital account convertibility refers to a similar liberalization of a country’s capital transactions such as loans and investment, both short term and long term. In a way, capital account convertibility removes all the restrains on international flows on India’s capital account. There is a basic difference between current account convertibility and capital account convertibility. In the case of current account convertibility, it is important to have a transaction – importing and exporting of goods, buying and selling of services, inward or outward remittances, etc. involving payment or receipt of one currency against another currency. In the case of capital account convertibility, a currency can be converted into any other currency without any transaction.