One year ago, the Indian central bank issued a notification regarding the settlement of payments against imports into and exports from India in their local currency the Indian rupee. While doing international trade, instead of paying and receiving convertible currencies like the US dollar, invoices will be made in the Indian rupee for which counterpart banks need to maintain special rupee vostro accounts with banks in India.
In this case, Indian banks would have to seek approval from their central bank. Rupee vostro accounts are nothing but foreign banks' accounts with Indian banks in rupees. In international banking, nostro and vostro are terms used to describe bank accounts. Nostro refers to my deposit at your bank, while vostro refers to your deposit at my bank.
Under the new regulations, Indian importers can pay in rupees against suppliers' bills for settlement of import payments, which will be credited in rupee vostro accounts maintained in India. In the case of their exports, proceeds will be paid to Indian exporters in rupees out of the balances held in special rupee vostro accounts of the relevant banks of trade partner countries.
The notification allows the offsetting of exports against import payments with respect to the same overseas buyers and suppliers. Under this arrangement, all exports and imports need to be assigned and invoiced in rupees, and the exchange rate between the currencies of the two trading partners can be determined as per market forces.
The notification stated that rupee surplus balance accumulated in such accounts may be used for permissible capital and current account transactions in accordance with mutual agreements.
Upon a close look of the Indian regulations, it can be observed that settlement of payments in rupee vostro accounts is already in place. But the modified regulations require prior permission from the Indian central bank before opening special rupee vostro accounts. As such, the accounts will be designated only for settlement of trade and other permissible transactions. The beauty of the regulations is that banks can use a safe, secure, and efficient way of messaging in terms of agreements with counterparts. This indirectly permits banks to use alternative messaging systems, bypassing traditional paths.
Another point observed from the regulations is that India will import first, the proceeds of which will be credited in vostro accounts maintained by trade partner countries' banks. Afterwards, the proceeds will be used for settlement of Indian exports. Under the procedure, counterpart countries cannot import first. As such, net exporting countries are in a favourable position to execute trade with India under rupee vostro route. Net importing countries can trade under the model up to their exports to India.
Bangladesh is a net importing country. It is reported that annual imports from India are a lot in amount compared to exports from Bangladesh, leaving a huge figure in terms of negative trade gap. Bangladesh exports readymade garments, vegetable fat, agro-processing goods, fish, leather goods, etc. The mode of transactions is letters of credit as well as sales contracts. The trend of letters of credit has observed a decline as of late. On the other hand, Bangladesh imports intermediate goods, consumer goods, capital goods, etc, mostly under letters of credit.
Settlement of trade transactions with India is made under the ACU payments route -- however, trade is settled under different methods such as sight payment, usance payment at sight by foreign banks or offshore banking units, and buyer's credit. The settlement is made freely convertible currency, mostly in dollars.
Three banks are reported to have been permitted to open special rupee vostro accounts with their counterpart banks in India. In the same way, the banks in Bangladesh need to maintain settlement accounts in the name of counterpart banks at their end. As the model requires India to import first, Bangladesh will have to export first, with a receivable position in settlement accounts maintained by banks in Bangladesh. Payments to exporters need to be paid by credit in their accounts.
Bangladesh exports are of two types, based on contents used for production -- import bases like readymade garments and non-import bases like agro products. Exports requiring no import contents can be settled easily under a special rupee vostro account. The model may not be supportive, unless a separate arrangement is made, for exports requiring substantial input contents, payments of which are normally settled out of realized export proceeds.
Bangladesh imports on a sight basis as well as on usance terms. In case of usance import, payments are made through buyer's credit. On the other hand, exports are executed on credit terms. Exporters try to receive payments through arrangements of supply chain finance. Foreign suppliers face no payment risks against their exports to Bangladesh since transactions are executed mostly by letters of credit. But exporters need to bear realization risk because of exports under sales contracts on credit terms.
There are different trade models practiced in India, in addition to traditional methods of trade settlement in convertible foreign currency. These are open account method, setting-of export receivables against import payables, Settlement of payments in beneficiaries' currencies, counter trade method, etc. These methods are supportive when it comes to promoting exports to untapped markets.
Bangladesh has already accommodated policy for exports under the open account method. There are options to adopt policies for adjustment receivables and payables against trade with same buyers and suppliers, including back to back payment directly by importers on adjustment from export proceeds. Settlement of payments in beneficiaries' currencies may be introduced by allowing banks to maintain nostro accounts abroad in local currencies of trade partner countries.
Trade with India under rupee vostro route is a new window for Bangladesh. This can definitely ease payment pressures under the ACU mechanism. It is true. But there are some issues deserving attention. Bangladesh and India are long trusted trade partners. Bangladesh needs support from India with regards to import facilities under purchase contracts, buyer's credit facilities, imports of input contents before exports, etc.
Bangladesh exports goods on sales contracts, but the same mechanism is rarely available for import trade. If such facilities are granted to Bangladeshi importers, import costs may come down. In case of usance imports, letters of credit should be accepted without confirmation by a third bank. Usance imports are basically executed under buyer's credit. In this case, banks arrange such finance from external sources against usance letters of credit. On the other hand, export trade is executed on credit terms for which exporters get export bills discounted before maturity.
There is a challenge in the model which requires Bangladesh to export first. As a net importer, Bangladesh needs imports first. This can easily be facilitated provided that rupee vostro accounts can be credited through trade credit extended by Indian banks. This amount retained in rupee vostro accounts will be used for payment to Indian suppliers. This will support the export sector depending on external input contents. The trade credit can easily be settled out of export proceeds. Side by side, Indian banks should arrange discounting export bills before maturity and credit in vostro accounts so that banks in Bangladesh can make funds available to exporters.
International trade is one of the engines of any economy's continuous growth. Trade transactions under rupee vostro route may lead to exploring export trade of Bangladesh to a new boost. Let us hope for fruitful outcomes in the days ahead.
Mehdi Rahman works in the development sector.