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Business News/ Opinion / Online-views/  Opening the gates once again
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Opening the gates once again

Opening the gates once again

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Foreign investors have aggressively sold Indian equities through this year, and more so over the past month. They have rushed to the exits taking their money with them. This has indirectly led to tight liquidity in the local money market. At one point of time early this week, banks were lending overnight money to each other at a steep 16%.

The Reserve Bank of India, or RBI, had good reason to set aside its inflation worries for the moment and announce a slew of measures of Tuesday to add extra liquidity to the domestic financial system. These measures have calmed the money market for now.

The tight liquidity has been more evident at the short end of the market. The slightly long-term worry is whether a slowdown in bank lending, the freeze in the global credit markets and a tough public issues market will squeeze Indian companies. These could affect economic growth.

So it is not surprising that there is now a clamour for a relaxation of the rules for external commercial borrowings, or ECBs. There is also some talk about easing the ability of foreign portfolio investors to invest in the Indian stock market through offshore participatory notes, or PNs. Both moves could potentially add liquidity to the Indian money markets.

The government and the central bank need to tread cautiously here. They will have to balance between two contrasting goals — adding liquidity to the domestic financial system and maintaining financial stability. The broader issues of inflation and the need to tackle it with tighter money also need to be kept in mind. It would also be useful to remember that RBI has described its liquidity boosting measures as transient.

Hedge fund money that comes in through PNs, deposits brought in by overseas Indians to arbitrage between global and Indian interest rates, and ECBs pouring into areas such as real estate — each can be a long-term threat to financial stability. It will be a tough balancing act between short-term liquidity problems and long-term issues of financial stability.

There is a genuine case for making it easier for foreign capital to flow into India, with a weak rupee and a wide current account deficit. Yet, we urge caution.

Is it time to ease curbs on ECBs and PNs? Write to us at views@livemint.com

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Published: 18 Sep 2008, 11:53 PM IST
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