Singapore: As India moves closer to allowing freer exchange of the home currency, bureaucratic heavy-handedness is spoiling the fun.
On 24 April, Reserve Bank of India Governor Y.V. Reddy announced that the annual limit on the amount an individual is allowed to move out of the country was being doubled to $100,000 (Rs4.08 crore).
Barely two weeks later, the central bank advised banks that transactions that are “in the nature of remittance for margins or margin calls to overseas exchanges/overseas counterparty are not allowed under the scheme.’’
Thus, with just a few words in fine print, the regulator shut the door on the individual Indian investor’s nascent re- entry into the international derivatives markets.
Domestic brokerages such as Reliance Money have recently tied up with foreign partners to enable retail investors in India to tap derivatives markets overseas.
If the increasingly liberal limit on outward remittances — the $100,000 ceiling is a 10-fold increase in three-and-a-half years — is the obvious trigger, the ban on foreign-currency remittances from being used to meet margin calls is a perfect killjoy.
A few thousand well-to-do Indians who were beginning to speculate on the Chicago Board of Trade and other global bourses closed to them during half a century of rigid capital controls have been stopped in their tracks.
The Reserve Bank insists that it’s only upholding the law.
Under India’s existing exchange-control rules, “trading positions are not permitted,’’ central bank spokeswoman Alpana Killawala said in an e-mailed response to my query. “Underlying exposure to exchange-rate, interest-rate or commodity-price risk is essential for undertaking any derivative transaction.’’
Analysts aren’t convinced.
“For over two years now, the central bank was comfortable with individuals trading in overseas commodities,’’ says Avinash Raheja, senior vice president at Mumbai-based Commtrendz Risk Management Services Pvt. Ltd. “What has changed to turn the tables — and so abruptly?’’
For a possible answer, you need look no further than Dubai.
Next month, the Dubai Gold and Commodities Exchange will start trading a futures contract on the Indian rupee. Settled in US dollars, it will be the first foreign-listed derivative on the Indian currency and an extension of the non-deliverable forward market, which already exists in international financial centres.
In a controlled exchange-rate regime, which is what India has, resident individuals — and firms that buy and sell goods locally — are the kitchen sink for currency risk.
Importers, exporters and foreign investors can all buy protection; only the small guy is stuck.
From a central banker’s perspective, this is a convenient arrangement; from the point of view of the local individual investor, this is financial repression.
The emergence of rupee futures in Dubai threatens the uneasy equilibrium. Resident Indians could easily use an exchange-traded futures contract — and the $100,000 outward remittance limit — to take a view on the rupee in a market over which the Reserve Bank of India has no regulatory control.
With Indians barred from buying foreign currency to make margin payments, the danger of residents legally betting on the rupee in overseas markets has been dealt with, at least for now.
However, this state of affairs can’t go on forever.
As long as the Reserve Bank had a tight grip on the rupee, people who didn’t have direct currency exposure could pretend they were immune to exchange-rate risk. Those days are over.
The Reserve Bank is now too busy taming inflation to also keep a lid on the currency. The Indian rupee, the world’s third- best performer this year, has risen more than 8% against the US dollar.
The five-day volatility in dollar-rupee, measured as annualized standard deviation of price changes over five days, has risen to about 12 now, from 2 at the end of last year.
Rupee derivatives are needed urgently so that “citizens and firms can do their own currency trading, and thus obtain private solutions to their own risk management problems,’’ says Ajay Shah, a former consultant to the Indian Finance Ministry.
The Reserve Bank of India seems to grasp the need to allow access to hedging tools to a larger set of economic agents. It announced last month that domestic users and producers of base metals will be allowed to hedge their risk in global commodities markets even if they aren’t importers or exporters.
It also revealed that a working group would be set up to study the international experience with currency futures and suggest a suitable framework to establish the market in India.
It’s a tad too late to be debating such elementary financial innovation.
If currency futures already existed, there would perhaps be no need to put restrictions on how individuals must use their $100,000 hard-currency entitlements. The controls will only turn some honest people into crooks, just the opposite of what good regulation ought to achieve.
— Andy Mukherjee is a Bloomberg News columnist. The opinions expressed are his own