RBI Circular on Risk Management and Interbank Dealings
December 19, 2011
Please see the FEDAI clarification of 16th December, annexed to the following note.
Importantly, RBI has clarified that forward contracts on expiry may be rolled over (cancelled and rebooked) if the underlying exposure is continuing,
subject to the condition that the maturity of the hedge contract should not exceed the maturity of the underlying transaction.
Annexure the FEDAI circular
RBI announced the following monetary measures as part of the mid-quarter policy review on Friday 16th Dec 2011:
While the inflation risk continues to remain high, RBI recognizes the significant increase in down side risks to growth projections, indicating a reversal of tight monetary policies. RBI also mentioned that the rupee continues to remain under stress and the timing and magnitude of the further actions will depend on how these factors evolve in the near future.
- Policy repo rate is kept unchanged at 8.50%. Consequently the reverse repo and MSF (Marginal Standing Facility) rate automatically remain unchanged at 7.50% and 9.50% respectively.
- The Cash Reserve Ratio (CRR) rate is also kept unchanged at 6.00%.
RBI has issued a circular on 15th Dec 2011 proposing changes to the foreign exchange derivative guidelines. The objective is to curb speculative positions, which have contributed to the recent slide in the rupee value and increased volatility of USD/INR exchange rate. The changes, which have come into effect immediately, are as follows:
- Forwards contracts involving rupee and with confirmed underlying exposures are not permitted to be canceled and rebooked. However the circular is silent on rollover of such forward contracts.
- The past performance booking limit for importers and exporters was earlier the average of last 3 years import/ export turnover or last year’s turnover, whichever is higher. For the importers this limit now stands reduced to 25%. No further booking is permitted for importers who have currently exceeded this limit.
- The forward contracts under the past performance limit are to be settled on a fully deliverable basis. Earlier this requirement was for only 25% of the limit. Moreover incase of cancellations the customer is not entitled to avail the forex gains.
- All cash/ tom & spot transactions by AD banks on behalf of clients are to be undertaken for actual remittances/ delivery only and are not permitted to be canceled or cash-settled.
- The FIIs were earlier allowed to cancel and rebook only 10% of their portfolio value at the beginning of the financial year. Now they are not permitted to rebook on cancellation of forward contract. However the FIIs are permitted to roll over the forward contract on or before maturity.
- RBI would advise AD banks revised limits with reduction in the Net Overnight Open Position Limit (NOOPL), which were fixed by their respective boards. The Intraday Open Position Limit is also not permitted to exceed the NOOPL. However these arrangements would be subject to review in the view of changing market conditions.
It is clear that the changes have been introduced to curb excessive speculation in the USD/INR, which RBI feels is one of the reasons for the recent slide in rupee. However we need to consider the following points:
- There is ambiguity in that the circular is silent on roll over of forward contracts against contracted exposures, while similar rollover is permitted to FIIs. In case the roll over is not permitted, a corporate will not be in a position to hedge currency risks if the payment is delayed due to some reason, which is a reality in business. If this is true then we believe this to be a temporary measure and expect a roll back once the USDINR stabilizes.
- RBI has effectively withdrawn, for the time-being, the powers earlier delegated to the boards of AD banks, for fixing the overnight limits. While the speculative trades are discouraged, banks may also come under pressure to square-up most of their day-end positions, including over-sold positions resulting from higher demand for dollars.
- While we may appreciate reduction in the past performance limit to 25% for importers as a temporary measure, denying exchange gains to the customers appears to be unfair in a free market.
- The forward contract restrictions for FIIs may not be so critical as most of the FIIs hedge their portfolio exposures in the NDF markets.
- It is possible that more of Indian corporates would turn to currency futures market to bridge gaps in their hedging requirement.
(Strategic Advisory Services)