CAPITAL ACCOUNT CONVERTIBILITY : ECONOMY

CAPITAL ACCOUNT CONVERTIBILITY : ECONOMY

NEWS: Can India realise the dream of becoming a 'Viksit Bharat' by 2047? Arvind Panagariya weighs in

 

WHAT’S IN THE NEWS?

Arvind Panagariya, Chairman of the 16th Finance Commission, has cautioned against rushing into full capital account convertibility at India's current per capita income level.He suggested that India should only consider this reform when per capita income reaches $8,000-$10,000.

 

Capital Account Convertibility and India's Approach

1. Understanding Balance of Payments (BoP)

Definition:

  • The Balance of Payments (BoP) is a financial record of all economic transactions (trade, investments, remittances, etc.) between a country and the rest of the world.

 

Components of BoP:

  1. Current Account
    • Records the flow of goods, services, and income.
    • Key components:
      • Trade Balance (exports and imports of goods and services).
      • Remittances (money sent by Indians abroad).
      • Income from investments (profits, dividends, and interest earnings).
    • India has full current account convertibility, meaning the rupee can be freely exchanged for foreign currencies for trade and services.
  1. Capital Account
    • Deals with the cross-border movement of capital (investments, loans, and borrowings).
    • India has partial capital account convertibility, meaning restrictions exist on certain foreign exchange transactions.

 

2. What is Capital Account Convertibility?

  • It refers to the freedom to convert rupees into foreign currency (and vice versa) for investment transactions without restrictions.
  • Full convertibility would mean:
  • No restrictions on Indians acquiring foreign assets (stocks, real estate, businesses abroad).
  • No limitations on foreign investors bringing capital into India for investments.
  • Current Status in India:
  • India allows partial capital account convertibility with restrictions on unrestricted capital flows to ensure economic stability.

 

3. Why Does India Restrict Full Capital Account Convertibility?

  1. Volatile Capital Flows:
    • Unrestricted capital movement can lead to massive inflows and outflows, causing instability in financial markets.
  1. Exchange Rate Risks:
    • Large foreign exchange movements can cause currency appreciation or depreciation, affecting:
      • Export competitiveness.
      • Inflation and import costs.
  1. Monetary & Financial Stability:
    • Unregulated capital flows can trigger economic crises (e.g., 1997 East Asian Financial Crisis).
    • Sudden withdrawal of foreign capital can destabilize the banking system and stock markets.

 

Source: https://economictimes.indiatimes.com/news/economy/policy/viksit-bharat2047-a-realisable-ambition-per-capita-income-needs-to-grow-at-7-3-panagariya/articleshow/118649385.cms?from=mdr