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Author: Padmini Subhashree, B.A.,LL.B.(Hons.), Editor in TRANSFIN. Media Pvt. Ltd.

While the West is leaving no stone unturned to make sure that Russia feels the pain of economic isolation, India is looking for new ways to escape the collateral damage of sanctions on its own end.

There has been a lot of talk about shutting Russia out of the SWIFT messaging system, also known as the "Gmail of the global banking industry". While this is certain to be the mother of all sanctions that Russia has seen, it would radically impact countries like India who have substantial bilateral trade with the country.

One of the reasons why the SWIFT would choke out Russia from the global economy is due to the fact that transactions in SWIFT are settled in the US Dollar. Which means that if one wanted to sidestep the SWIFT system, they would effectively switch to an alternate currency.

Enter, the Indian Rupee. The Government of India is contemplating to switch to national currencies (Rupee and Ruble) in conducting bilateral trade with Russia. This isn't the first time that such an arrangement has been contemplated. And while this is an excellent tool to bypass the Western sanctions, it comes with its own set of constraints and challenges.

Let's see how this arrangement would work.

The Rupee-Ruble Connection

The Rupee's courtship dates back to the days of the Emergency when India's ties with the Soviet Union was at its peak. Between 1971 and 1975, the Rupee depreciated a lot in terms of gold. The Soviet Union took this opportunity to capitalise on the resources coming out of India. It adjusted the exchange rate of its currency (from ₹100 = ₽11.39 to₹100 = ₽8.66) to its own gain. Although this wasn't a favourable exchange for India but given the diplomatic predicament at the time, India agreed to this arrangement.

Fast forward to 2022 when the table has evidently turned to India's favour. With Russian interests taking a beating internationally, the migration of bilateral trade with India to national currencies would be a good thing for both sides, but more importantly, for India.

Here's how. If the Rupee turned out to be the designated currency of trade, Russian banks and firms would have to open accounts with Indian banks in order to settle transactions. That would certainly be net positive for Indian capital interests and the Rupee's dominance.

Secondly, things have changed dramatically since the Cold War days. Back then, both the Rupee and the Ruble were grossly overvalued. But today, both currencies trade roughly at par vis-a-vis the Dollar. In other words, the Ruble has depreciated a lot more against the Dollar than the Rupee, so far as to say that the Ruble is significantly undervalued today. The Rupee, on the other hand, continues to be somewhat overvalued despite continuing current account deficits (primarily due to large FDI inflows).

Bottom line: Aside from reversing its geopolitical and economic isolation, Russia needs the Rupee-Ruble trade to resume MORE DESPERATELY than India does. This effectively puts India in the driver's seat when it comes to determining the deal points if it chooses to opt for the Rupee trade with Russia.

The next gain to India would be in the form of reduced dependence on the Dollar. Balancing payments in the national currency would give the necessary fillip to Rupee to gain a larger share of exports. India's annual bilateral trade with Russia stands at $8bn. If the entirety of this trade migrates to the national currencies, that would mean the Rupee gaining significant traction in the foreign exchange market. This could even be the necessary push India needs to turn the Rupee into a fully convertible currency.

Speaking of which…

What is a Fully Convertible Currency?

Convertibility is the ease with which a country's currency can be converted into gold or another currency through global exchanges. The Rupee is not yet fully convertible because liberating the currency completely means depriving it of the protectionism that the RBI offers to shield against fluctuations in the global economy.

If the Rupee went into a free fall in tandem with the global forex markets, that could lead to 1) an increased debt burden 2) unfavourable balance of payments, and 3) weak fundamentals.

On the contrary, making the Rupee truly convertible would lead to several benefits like increased liquidity in the financial markets, easy access to foreign capital, onshore Rupee market development in other countries, facilitated outward investments and an improved financial system overall.

Many experts have long opined for India to opt for the road of a fully convertible Rupee. Perhaps the resumption of Rupee trade with Russia could act as a catalyst for this long-advocated transition.

And, remember that this isn't unprecedented. In the past, India has used its national currency to trade with Iran (chiefly for urea imports), a country long-assailed with sanctions. In fact, India has traded in the Rupee with Russia before to pay for its defence contracts.

What Seems to Be the Problem, Then?

Well, for one thing, the West isn't going to like it. As much as the United States seems to look the other way with India's non-aligned position in the Ukraine conflict, any active measure taken by India to continue trade with Russia would be an eyesore not just for the US but for the whole of Europe.

Not to forget that the added ease of trading in the national currency would redirect a chunk of Indian exports towards Russia, exports diverted from the global market to Russia. India may not want to gamble on just how many eyesores the West will remain ignorant to.

And then there is the mother of all eyesores - the kind of goods exported from Russia to India. If Russia began increasing oil and gas exports to India, that would mean India stealing the Achilles heel of the Western nations which has so far stayed their hands from retaliating against Russia more aggressively.

Therefore, it remains important that India take quite a calibrated approach while engaging in mutually beneficial trade policies with Russia. Walking the tightrope of non-alignment requires some serious diplomatic dexterity and hence the Rupee-Ruble marriage should be restituted only upon careful introspection.