Mumbai: The Reserve Bank of India (RBI) on Thursday announced a series of measures to end speculation on the rupee, Asia’s worst performing currency this year, and stem a decline that has caused the Indian unit to lose 16.5% of its value against the dollar since August.
Companies as well as foreign institutional investors (FIIs) will no longer be allowed to re-book forward contracts after cancelling them. Similarly, the so-called overnight open positions of banks, or their unhedged exposure to foreign currency, has been cut. The new limit for such exposure will now be determined by the central bank and not the boards of commercial banks. As a result of these measures, neither firms nor banks will be able to punt on the rupee and take advantage of volatility in the foreign currency market.
The new regulations, unveiled after the close of trading, came into force with immediate effect, but experts aren’t sure they will help staunch a currency decline they blame on a lack of dollar supply more than speculation.
Hours after the RBI announcement, the one-month forward rate in the offshore market dropped to Rs 53.74 per dollar, down from Rs 54.47 a dollar on Wednesday.
An RBI statement said currency forward contracts involving the rupee, once booked, cannot be cancelled. Also, all the contracts should be on a delivery basis. This means parties involved in such contracts must receive the currencies.
The new norms will hit banks’ fee income as they can only undertake currency transactions on behalf of their clients for actual remittances and delivery of the currency. Besides, RBI has reduced the overnight open position limit, or a bank’s unhedged exposure in currency market.
Until now, bank boards were allowed to fix limits for various treasury functions, even though RBI approval was required for the overnight open position limit.
Foreign exchange dealers termed the measures as “drastic” and something that will partially check the arbitrage play between on-shore and offshore markets.
“The currency is losing because of current account deficit and not so much by speculation. This step will address sentiments rather than anything. It’s clearly a short-term measure and doesn’t address anything fundamental,” said a dealer at a foreign bank, who didn’t want to be named.
The rupee continued to weaken against the US dollar on Thursday, falling to an intra-day low of 54.60 per dollar as concerns over global economic growth drew investors towards the US currency. The Indian unit, however, recovered to end at 53.64 per dollar, up from 53.72 on Wednesday, because of dollar sales by RBI as well as the euro’s partial recovery.
RBI’s measures will push speculators out of the currency markets and leave only investors, who would need to hedge their exposure.
In a normal situation, investors can enter into contracts and cancel them when the currency bet goes wrong. They had a free hand in such contracts for hedging in current account transactions irrespective of tenures, and for capital account transactions falling due within a year.
“It has now been decided to withdraw the above facility. Forward contracts booked by residents irrespective of the type and tenor of the underlying exposure, once cancelled, cannot be re-booked,” RBI said in a notification on its website.
RBI also said the exporters and importers cannot claim the benefit of “probable exposures based on past performance”. Under this facility, a resident was allowed to hedge currency risk by a declaration of the previous year’s actual import/export or the average of import/export of the past three financial years, whichever is higher.
Contracts booked in excess of 75% of the eligible limit were to be on deliverable basis and could not be cancelled.
The facility is cut to 25% of their eligible limit.
“In case of importers who have already utilized in excess of the revised/reduced limit, no further bookings may be allowed under this facility.” In addition to that, “all forward contracts booked under this facility by both exporters and importers henceforth will be on fully deliverable basis”. Simply put, exporters or importers, when they enter into currency forward market, should enter only to hedge their exposures and once they take a view on currency, they cannot change it.
“RBI’s attempt is to stabilize the rupee and reduce speculation. There would be no impact on the genuine trades from importers and exporters. This move will reduce speculation because in volatile times it is seen that traders cancel forward contracts depending on their position. But bank volumes will be hit and that will impact fee income,” said P. Mukherjee, treasurer at Axis Bank Ltd.
“The restriction in FIIs re-booking contracts will not have much impact. FII investments both in debt as well as equity won’t be deterred only because of this move,” said N.S. Venkatesh, head, treasury, IDBI Bank Ltd.