A Short History Of The Indian Monetary Standard

The Indian rupee – and, more generally speaking, the Indian monetary policy – has been the topic of much discussion in recent months. The rupee reached an all-time low against the United States (US) dollar in October 2018, hitting close to 74.36 units to a dollar. In December, the Reserve Bank of India (RBI) Governor Urjit Patel tendered his resignation, provoking a debate over monetary policy independence.

This might be a good occasion to reflect on the history of the Indian monetary standard and the conduct of monetary policy in India over the past three millennia.

What is the history of the rupee? How did Indians conduct transactions and store value over centuries? When did India move to a fiat currency? What are the problems in attempting to manage the value of currency unit while not maintaining the discipline to rein in inflation?

These are questions of economics, yes. But they are also moral questions. An examination of the history of the rupee illustrates that monetary economics is a moral minefield. It is not possible to have the cake and eat it, too.

Early Indian Coinage

Ancient India is widely regarded as one of the early innovators in money and among the first countries to start issuing coins. This was observed in the coinage associated with several Mahajanapadas (circa sixth to fourth century BCE).

But we cannot find much literature from the time elaborating on the monetary standard in the Mahajanapadas. What we do have are the coins. For literary elaboration on the nature and type of Indian currency, one of the earliest books is Kautilya’s Arthashastra, usually dated to fourth century BCE.

The Arthashastra is also interesting as it carries the first clues to the etymology of the modern word “rupee”. According to Kautilya, the Mauryan state managed the mint headed by a superintendent named Lakshaṇādhyakshah. The silver coins manufactured by the mint are referred to as rūpya rūpa. In Sanskrit, rūpya means wrought silver and rūpa refers to form or shape.

Kautilya, however, does not suggest that the empire had a silver standard by any means. He also refers to other types of coins besides rūpya rūpa, most notably, copper coins called tāmra rūpa.

Also, the name rupya rupa appears to be a bit of a misnomer, as Kautilya in the description of the coins mentions that they are not exclusively made of silver. The silver coin in Kautilya’s words consisted of four parts of copper and the one-sixteenth part of any of the following metals: tikshna (iron), sisa (lead), anjana, trapu (tin). One is not sure of the actual silver content in it. Similarly, tamra rūpa (copper coins) comprised four parts of an alloy named padajivam.

So, the monetary system was most likely not a silver standard, or even a bimetallic standard, where the currency unit is defined in relation to two metals. But it was definitely a tightly regulated system where legal tender had to conform to certain standards of composition. It’s also interesting that Kautilya’s understanding of money is pretty consistent with the contemporary understanding. He acknowledges its role not just as a medium of exchange but also as a store of value.

It also appears that there was a central banker of sorts, the rūpadarśaka, whose job was to regulate the currency in the state. Kautilya also talks of a premium of 8 per cent levied on new coins issued, referred to as rūpika, which acted as a source of revenue to the treasury.

Now, how did this change over the next 1,000 years?

Judging by the coins associated with the great Gupta Empire of the fourth and fifth century CE, it does seem that gold coins were a lot more common in the Gupta Empire relative to the Mahajanapada or Mauryan periods. Here’s a gold coin issued by Samudragupta, circa 350 CE. Interestingly, the coin was called dinara, possibly a foreign word as opposed to the Indian word for a gold coin, suvarna rupa.

One hypothesis is that gold coins became popular in India after the Kushan rule, which introduced the dinara to the country. This was later adopted by the Guptas. The Gupta Empire also issued silver and copper coins but gold coins were very common.

Monetary Standards During Sultanate Rule

Now, let’s fast forward by some 800 years to the period of the Delhi Sultanates. There was a radical change in monetary standards introduced in India with the coming of the Muslim rule after the twelfth century (at least in North India).

The early Sultans did not depart from the Hindu numismatic standards. The earliest conqueror of the North Indian plain was Muhammad Ghūri, in the late twelfth century. The gold coins issued during his reign adhered to the convention, with goddess Lakshmi on one side and the name of the ruler on the other. The manager of the mint at Delhi during the rule of Alauddin Khilji’s son was one Thakurra Pheru, a Hindu or a Jain, who left behind a book in Apabhramsa on the exchange rate and the details on metal composition in coins of different types.

But, despite the early continuity, there were some significant changes in the course of the thirteenth century. The Delhi Sultanate established a firm exchange rate between gold and silver of 1:10 – a bimetallic standard of sorts that we didn’t quite encounter in earlier classical literature. Also, this was a period of political and cultural upheaval. The Khilji and Tughlaq sultans were notorious for their raids on Hindu temples, which inevitably meant a great deal of gold acquisition and subsequent use of that gold by the mint to issue coins.

This monetary indiscipline in the thirteenth century put a strain on the 1:10 ratio between gold and silver. Gold dominated in the general circulation, because of which the unofficial exchange rate between gold and silver dropped to as low as 1:7, though the official rate was at 1:10. This is one of the early examples in monetary history where a fixed exchange rate came under stress and eventually collapsed because it was not accompanied by monetary discipline and austerity.

The greed of the Sultans is well documented by the fourteenth-century historian Ziauddin Barani, who talks of the token currency in copper and brass introduced by Muhammad Bin Tughlaq to arbitrarily replace silver. This had a disruptive effect on commercial activity, forcing Tughlaq to backtrack and revoke the token currency.

Tughlaq’s token currency was an innovation not inspired by thinking rooted in Indian realities but possibly a fad picked up from China at the time. In China, the Yuan dynasty was experimenting with “Chao”, a paper currency that is usually regarded as the world’s first fiat currency. It is not surprising that the “paper currency” model did not work very well in China, either, which was beset with inflation problems at the time.

The gold surplus in the sultanate period also found its way into many foreign countries including Iran and parts of Russia. A fifteenth-century Persian revenue manual suggests that the royal treasury at Tabriz had more gold sourced from India than from any other source.

Presumably, the sultanate was engaging in imports of luxury goods (furs, slaves, warhorses) from countries on the north-west using the gold surplus. It was clearly a policy that promoted certain trade patterns that suited the tastes of the sultans funded by Indian gold. But the chaos induced by monetary instability appears to have eventually led to the issue of fewer gold coins during the later Tughlaq period and a reversion to the mixed metal currencies and copper coins.

Monetary Policy In Mughal India

During the sixteenth century, under Mughal rule, greater standardisation set in after the chaos of the preceding few centuries. At the onset of Mughal rule, north India largely used copper currency known as sikandari. While southern India, less influenced by the monetary chaos in the north, stuck to the gold currency, with the gold coin going by the name pagoda in the Vijayanagar Empire.

Sher Shah Suri’s brief reign from 1540 to 1545 was pivotal in the history of the Indian monetary standard. He established a tri-metallic coinage with strict standards after centuries of debasement:

• Rupaiya: silver coin (and the principal coin in the Empire)
• Mohur: gold coin
• Dam: copper coin

With the spread of the Mughal Empire in southern India in succeeding centuries, the rupee slowly replaced the gold pagoda in many provinces, but the pagoda continued to be dominant in the Tamil country.

So, how do we judge the monetary standard from sixteenth to late eighteenth century under Mughal Rule?

Dr B R Ambedkar, a fine monetary historian in his own right, speaks positively of the monetary discipline during Mughal rule in his work, The Problem of the Rupee, published in the 1920s. It definitely was a less chaotic period compared to the plunder, indiscipline, and thoughtless monetary innovation of the preceding sultanate period.

The silver rupee was the dominant currency. But was it a silver standard? Not quite. As we discussed earlier, it was a tri-metallic system. The mohur, the rupee, and the dam were linked to each other by a fixed ratio. As we know, fixed currency pegs are dangerous, especially when not accompanied by monetary discipline. But the Mughal mints were relatively more disciplined and they desisted from debasement for the most part.

Radical Changes During East India Company Rule And The Ensuing British Raj

One is not sure if the system changed in any material way when the Mughal Empire declined and power moved into Maratha hands in large parts of the country.

The early years of the Company rule in Bengal saw the first issue of paper currency in India, a first in Indian history. The banks that issued paper currency included the Bank of Hindustan (1770-1832), the General Bank of Bengal and Bihar (1773-75), and Bengal Bank (1784-91). But the monetary standard in the late eighteenth century remained a bi-metallic or, rather, a tri-metallic system with primarily silver coins (as well as gold and copper in circulation).

However, at the dawn of the nineteenth century, the Company authorities were irked by the lack of uniformity that had probably crept in with the political chaos in India in the eighteenth century. There were three types of rupees – the rupee sicca of Bengal, the rupee surat of Bombay, and the rupee arcot of Madras.

In 1835, there was an act passed that abrogated bimetallic standards and moved British India to a mono-metallic silver standard. Broadly speaking, we can think of the monetary standard in the British period in three distinct phases:

• 1835-1893: Silver standard
• 1893-1898: Transition to gold standard
• 1898 onwards: Gold exchange standard

So, clearly, the silver standard was effective for the longest period.

While standardisation and a single standard may be viewed as positive developments by some, it also created some problems. The biggest issue was that though India moved to the silver standard, its chief trading partner and ruler, Britain, was on a gold standard.

The period of the Raj was unique in the long Indian monetary history. For the first time, the economy was not primarily self-contained as in earlier centuries, but foreign trade (particularly with Britain) increasingly constituted a large part of economic activity. Given the move to a mono-metallic standard in 1835, it may have made sense to move to gold, as Ambedkar mused a century later.

But the move to the silver standard meant that the two countries were on different standards, and the government made futile efforts to fix a ratio between the two. In 1841, a proclamation authorised the treasuries to fix the gold-silver ratio at 1:15. This proved problematic when new gold deposits were discovered in Australia and the US, bringing down the gold price. As the Indian treasury was honouring the fixed exchange rate of 1:15, there developed a market in shipping gold to India to make a profit. This resulted in vast accumulation of gold in the Indian treasuries.

Eventually, attempts to peg the exchange rate were abandoned in the 1850s, following which there was a major fall of the rupee, as illustrated below.

This was in part triggered in the late nineteenth century by two things:

• Demonetisation of silver in many countries (Germany, Scandinavia in 1870s)
• Discovery of new silver mines

But this turmoil in exchange rates was not really a negative thing. Indian trade volumes actually increased quite remarkably in this period of rupee decline, as shown below.

Also, the rupee decline was not caused by currency debasement or an irresponsible mint (as we saw in the period of the sultanate). Inflation in India remained under control. So, the point to emphasise here is that letting the currency depreciate was not a catastrophe. Sure, it meant increased payment of home charges to the Britain for maintenance and upkeep. But these were the evils of colonial rule, not so much the fall in the rupee, per se.

Under a lot of pressure, India did move to a gold standard in the late 1890s. While pegging may have created a semblance of stability, it meant the country had a very tight money supply and no monetary independence. This ties back to the maxim of the “Impossible Trinity” in international economics. A country cannot have all three of the following:

• Fixed exchange rate
• Free capital movement
• Independent monetary policy

In the later years of British Raj, under the gold standard, what we had was a fixed exchange rate and free capital movement. But this naturally meant a surrender of monetary independence and a monetary policy ill-suited to the Indian business cycle. In fact, India did not even have an independent central bank till 1934, the year RBI was instituted.

The Rupee Post-1947

After the country’s independence, elections and political accountability meant that there was much greater emphasis and need for having an independent monetary policy that addressed the Indian business cycle. However, we also continued with a fixed exchange rate, with extremely low volatility. The rupee was pegged to 1 US dollar in 1947. In later decades, the low volatility of exchange rate was maintained despite some depreciation forced by crises.

But the combination of a fixed exchange rate and independent monetary policy was achieved by erecting barriers not just on capital flows but also rather needlessly on the current account trade. It was a period of relative isolation from the world – a huge opportunity cost paid by the economy.

Here’s a look at the rupee’s evolution vis-à-vis the US dollar since independence.

Costs Of Currency Pegging

There is little doubt that India’s currency pegging came at a cost. Even though we had barriers on trade and capital flows for most of the post-independence years, we still had to buckle under pressure to devalue the rupee in 1966, when we faced our first severe economic crisis.

India’s unjustifiably high exchange rate was maintained artificially by placing restrictions on imports and subsidising exports. Nevertheless, perhaps the peg could have been maintained if monetary discipline had prevailed and inflation kept in check.

But inflation went out of control in the 1960s, making Indian goods extremely expensive abroad.

India’s fiscal profligacy meant that the deficit was partly funded through increasing money supply, as evident in the numbers below.

Foreign aid throughout the 1950s and 1960s helped to prevent a major crisis. But things came to a head in 1966 when aid was cut off and India was forced to devalue its currency. Though India devalued the currency practically overnight from Rs 4.8 to Rs 7.1, it was not as sharp a decline as it probably could have been. What was needed then was a removal of trade barriers and a much weaker rupee to make India competitive. Yet, we chose a strong rupee over a strong economy.

There was a repeat of the 1966 crisis in slightly different circumstances in 1990-91. The country tethered on the verge of bankruptcy and India could barely finance three weeks of imports. The reforms were forced upon India, in part by an International Monetary Fund bailout. While the reforms involved many pieces, the centrepiece, of course, was abandonment of the fixed exchange rate policy and letting the rupee depreciate.

The rupee depreciated from 17 to a dollar to roughly 35 to a dollar between 1990 and 1996. It has progressively weakened since, against major currencies.

Yet, the Indian economy has strengthened by the day. Today, it is the strongest that it has ever been, at precisely the moment when the rupee is arguably the weakest it has ever been. That’s not an anomaly at all.

The lesson from this quick examination of Indian monetary history from the Mauryan period to our times is to remind ourselves that the monetary standard by itself tells you very little about the robustness of a country’s economic system.

It is the responsibility of the central bank to maintain monetary discipline. In this time of global integration, it is also the responsibility of the government to reduce barriers to trade and capital that could hurt a developing economy. . But, all said and done, it does not behoove the government to prop up the rupee.

The value of the rupee is best left to the market.