One of Britain’s main preoccupations in the 19th century was the exchange value of the Indian rupee vis á vis the British sterling pound – this was important in order to maintain a favourable balance of trade for England. The currency ratios between the British pound and the Indian rupee were often a matter of fierce debate between the Indian mercantile community and the various currency commissions that were sent to India between the years 1866–1925. During these currency debates, the recommendation for a central bank for India to look to the interests of India was often brought up.
The Royal Commission on Indian Currency and Finance, 1927 (Hilton-Young Commission) recommended the establishment of a central bank to be called the Reserve Bank of India as a shareholders’ bank. The Reserve Bank of India Bill 1927 however was dropped in view of irreconcilable differences on governance matters. It wasn’t until 1 April 1935 that the Reserve Bank of India was finally established as a private joint stock bank Bombay.
The establishment of the RBI could not have been more timely and its effect stabilising, as it was established when the Indian nationalistic movement had gained momentum in the inter-war years, and soon after the global economy was beset with the Great Depression (1928). Most importantly, it played a critical role in protecting the country’s interests during the Bretton Woods conference (1944) in the United States, at a time when Indian independence was inevitable after the War. It was the only British colony that had its own representatives.
The Indian delegation succeeded in securing a large sterling balance of Rs. 1,736 crore (1940–1946) with the Bank of England against the expected devaluation after the Second World War of the British sterling pound. India’s contribution to the Second World War was not just the largest from among the British colonies, but it was made at great personal sacrifice – it exported food grains – at a time when the country was beset by the terrible Bengal famine (1943–1944). This sterling balance represented this sacrifice! Devaluation would mean wiping out a substantial part of India’s reimbursable war reserves with Britain. Although, the RBI delegation did not succeed in securing multi-lateral convertibility of India’s sterling reserves with the Bank of England into U.S. dollars, the assurance given by Lord John Maynard Keynes at Bretton Woods, the moving spirit of the conference and head of the British delegation, was that a suitable bilateral arrangement would be worked out – and it was.
In the post–Second World War global economy, the rupee was no longer a currency of trade, as it had once been in the pre-colonial and colonial Indian Ocean trade. In order to overcome slim forex reserves, a largely inconvertible rupee, and bypass the U.S. dollar’s hegemony, the innovation of rupee-denominated trade with the Soviet bloc countries from 1948–1949 was introduced. But with one major difference: the bilateral trade was solely denominated in rupees.
Till 1958–1959, the difference between debits and credits in the rupee accounts of these countries with the RBI had to be settled in a convertible currency, like the sterling pound. After 1958–1959, this surplus was held in these rupee accounts and any deficit was covered by overdrafts from the RBI. The value of the Indian rupee in this trade was thereafter fixed in terms of gold (Batliwalla 1998). The first set of these bilateral trade agreements were executed with Yugoslavia, Czechoslovakia, Hungary and Poland in 1948–1949. In the 1950s, agreements were signed with the Soviet Union and other Eastern bloc countries. Trade with the region increased rapidly, especially in the 1950s, from $9.2 million (1952–1953) to $658 million (1965–1966), constituting just 0.3% at first and then jumping to 14.2% of India’s foreign trade.
The RBI managed the payments’ structure mechanism of India’s trade with the Soviet bloc. As this trade was denominated in rupees, each transacting country maintained three separate accounts with the RBI, and one account with a commercial bank in India.
This rupee-denominated trade had major drawbacks, as numerous RBI reports of this period indicate. It reduced earnings in hard currency; a diversion of Indian goods from these countries to markets in the West; and interest was being earned by these countries on current account balances in Indian commercial banks, whilst still drawing interest free rupee overdrafts from the RBI. The most glaring omission was highlighted when the rupee was devalued on 6 June1966, due to a grave balance of payment crisis further aggravated in the aftermath of the 1965 India-Pakistan War. The gold clause was evoked by the Soviet Union, whereby the predetermined value of the rupee was fixed in terms of gold, a devaluation meant that the Soviet Union demanded additional payment in terms of rupees for their exports. As the price contracts did not allow for domestic price increases due to devaluation, Indian exporters were left exposed. This loophole in the Soviet bloc treaties was eventually settled through diplomatic channels.
Though the above is just one instance of the challenges India faced during the Cold War years, it was the 1991 forex crisis that forced the country to change tact from its Socialist inspired policies. Under the IMF’s stringent conditions for its emergency loan to the country, much needed financial and capital market reforms were undertaken. The Indian rupee too was made partially convertible – only under current account but certain capital account transactions still need approval.
The positive fallout of these economic reforms has been that it has put the spotlight back on Bombay – today’s Mumbai – because it is the financial capital of India. Where once politics drove the economy in the post-independence years, today largely economic imperatives drive politics like it once did in the colonial past. Not only is Mumbai the financial capital of India but the city hosts the country’s major financial institutions – the RBI, BSE, National Stock Exchange, MCX (Multi-Commodity Exchange: Metals & Energy) and SEBI. It still retains its intrinsic strengths of skilled manpower, trading communities and historic microstructures like markets for everything produced in India and for much produced overseas, too. This is the reason why the plan in 2015 to make the city an International Financial Centre (IFC) as recommended by the 2007 Percy Mistry Report, was greeted with great excitement. This has been shelved. Ahmedabad’s Gujarat International Finance Tech-city (GIFT City) is India’s first IFC or financial SEZ. But there is ample scope for another IFC – hopefully Mumbai will be its next location.
Sifra Lentin is Bombay History Fellow, Gateway House.
This an excerpt from the chapter titled ‘Finance, desi and videshi’ which appears in the book, ‘Mercantile Bombay: A Journey of Trade, Finance and Enterprise,’ published by Routledge (2022).
It is republished here with permission.
You can purchase the book here.