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Britain (and France) declared war on Germany in 1939. In preparation, India’s economy was geared up by the colonial government towards the war effort through imposition of controls. The first was the exchange control. Completely convertible into any currency until then, the rupee was made inconvertible. Transferring money outside the sterling area required permission under rules that were laid down in London. The maze of controls grew as the war went on. Dollar securities held by private individuals were compulsorily acquired, and compensation was in rupees at the market price on an arbitrary date, resulting in losses to many. The Bank of England (BoE) sold the securities so acquired, adding the dollars to its coffers. Dollars for the war were also raised by selling silver bullion from India’s reserves to governments outside the sterling area. Dollars could be spent on imports of essential consumables, not capital goods. What was essential was defined by the war requirements until 1946, when civilian requirements were included. The restrictions on capital goods imports continued because the BoE had blocked what were called India’s sterling balances. By the end of World War II, India had accumulated a sizeable sterling balance of £1,300 million — India’s earnings in foreign currency on its exports for the war, deposited in the BoE in the form of sterling to the credit of the Reserve Bank of India (RBI) account. The balance had grown with import controls limiting forex outflows. The corresponding increase in rupee circulation stoked war inflation in India. After the war ended, the transfer of the sterling balances was negotiated between India and Britain. (After Partition, Pakistan joined the talks.) India’s key negotiator, B.K. Nehru, has described the protracted settlement in his memoirs.
Source : https://www.thehindu.com/todays-paper/tp-opinion/a-brief-history-of-the-rupee/article24740711.ece
