The economic partnership between the United Arab Emirates (UAE) and India has witnessed extraordinary growth over the past few decades. Both nations share a robust trade relationship, with billions of dollars exchanged annually in goods, services, and investments. Despite this progress, a significant portion of their trade is still settled in US dollars. This dependence on a third-party currency creates vulnerabilities such as foreign exchange risks and transaction delays. To overcome these challenges, promoting local currency settlement between the UAE Dirham (AED) and the Indian Rupee (INR) is essential. Such a move can strengthen economic resilience, enhance bilateral trade, and reduce costs for businesses on both sides.
Understanding Local Currency Settlement
Local currency settlement refers to conducting international trade transactions directly in the domestic currencies of trading partners, without involving a global reserve currency like the US dollar. This approach reduces reliance on foreign exchange reserves, minimizes currency conversion costs, and protects economies from volatility in global markets. For UAE and India, using AED and INR directly can transform trade dynamics, making transactions smoother, faster, and more cost-effective.
The Current Scenario of UAE-India Trade
UAE is India’s third-largest trading partner, while India is among the top destinations for UAE’s exports. The Comprehensive Economic Partnership Agreement (CEPA) signed in 2022 has already paved the way for reduced tariffs and increased investment flows. However, despite these milestones, more than 80% of transactions between the two countries are still settled in US dollars. This dependency leads to exchange rate fluctuations, higher hedging costs, and unnecessary exposure to global market uncertainties. Therefore, boosting local currency settlement is not just a strategic decision but an economic necessity for both nations.
Key Benefits of Local Currency Settlement
Encouraging local currency settlement brings a multitude of advantages. It reduces conversion costs for businesses, improves liquidity, and lowers transaction fees. Additionally, it strengthens monetary sovereignty, allowing both nations to have better control over their trade-related financial systems. Businesses can price their goods more competitively, while importers and exporters can hedge risks more efficiently. On a macroeconomic level, direct AED-INR settlement will enhance financial stability and promote deeper economic cooperation.
Steps Needed to Boost Local Currency Settlement
While the concept is promising, achieving full-fledged local currency settlement requires strategic measures from governments, financial institutions, and businesses. Here are the critical steps that can make this transformation possible.
1. Strengthening Bilateral Agreements
The first and foremost step is for both countries to sign a comprehensive agreement that specifically focuses on local currency settlement. Although existing trade agreements cover tariffs and investments, there must be a dedicated framework that encourages direct AED-INR transactions. This should include commitments from both central banks to support the currency pair and provide liquidity when needed.
2. Expanding Banking Infrastructure
To facilitate smoother transactions, banks in both countries must develop infrastructure that allows real-time settlements in AED and INR. Expanding the network of correspondent banks, establishing direct payment corridors, and integrating advanced digital payment systems can make the process seamless. Moreover, financial institutions should be encouraged to offer competitive exchange rates to boost adoption.
3. Promoting Awareness Among Businesses
Many businesses, especially small and medium enterprises (SMEs), remain unaware of the advantages of settling trade in local currencies. Governments and trade associations must launch awareness campaigns, conduct workshops, and offer guidance on using local currency mechanisms. Educating exporters and importers about the cost savings and risk mitigation benefits will accelerate adoption.
4. Leveraging Digital Platforms and FinTech Solutions
Technology plays a crucial role in modern financial ecosystems. Implementing blockchain technology, instant payment solutions, and secure fintech platforms can enhance transparency and efficiency in AED-INR settlements. Digital solutions can also help in reducing settlement times from several days to mere seconds, making the process more attractive to traders.
5. Encouraging Central Bank Collaboration
The Reserve Bank of India (RBI) and the Central Bank of UAE must work together to create a robust framework for currency swap arrangements and liquidity management. They should ensure that adequate reserves of both currencies are available in the market to prevent shortages and fluctuations. Regular consultations and joint monitoring can keep the system stable and efficient.
6. Offering Incentives for Early Adoption
To encourage businesses to switch from USD to AED-INR settlements, governments can introduce incentives such as lower transaction fees, tax benefits, or preferential trade terms. Offering initial advantages will motivate traders to embrace the new system more quickly.
7. Establishing a Local Currency Exchange Market
Creating an active AED-INR exchange market will enhance currency liquidity and provide businesses with better pricing options. This requires cooperation from stock exchanges, currency trading platforms, and institutional investors. A vibrant exchange market will increase confidence in the use of local currencies.
8. Enhancing Policy Support and Stability
Policy stability is crucial for any economic transition. Both nations must ensure consistent policies that support local currency settlement. Clear regulatory frameworks, low volatility in exchange rates, and transparent procedures will make the initiative sustainable in the long run.
UAE Dirham:The Role of Businesses in Driving Change
While governments and banks play a pivotal role, businesses themselves must take the initiative to adopt local currency settlement. Large corporations can lead the way by signing contracts in AED or INR, setting an example for smaller players. Multinational companies operating in both countries should also leverage their resources to promote direct currency transactions.
Learning from Global Examples
Several countries have successfully implemented local currency settlement mechanisms, such as China with the yuan and Russia with the ruble in their trade agreements. These examples show that with strong policy backing and efficient financial infrastructure, transitioning to local currency settlements is achievable and beneficial. UAE and India can draw lessons from these models and tailor them to their unique trade dynamics.
Building Trust and Confidence
Trust is the cornerstone of any financial reform. Both governments must work to ensure businesses and investors have confidence in the AED and INR. This can be achieved by maintaining stable exchange rates, avoiding sudden policy changes, and ensuring transparent financial operations. Trust will encourage long-term adoption of local currency settlement.
Future Outlook
The future of UAE-India trade looks promising, especially with the growing emphasis on local currency use. As global economic dynamics shift, countries that reduce dependency on external currencies will be better positioned to navigate uncertainties. With the right strategies, AED-INR settlements can become the norm, boosting trade, investment, and overall economic cooperation between the two nations.
Conclusion
Boosting local currency settlement between the UAE Dirham and Indian Rupee is a strategic step toward economic independence, cost efficiency, and stronger bilateral relations. It requires a combination of policy support, technological advancements, financial infrastructure, and business participation. By taking these steps, UAE and India can not only reduce their reliance on the US dollar but also unlock a new era of economic growth and stability. The journey may be challenging, but the rewards far outweigh the efforts, making this initiative a win-win for both nations.
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