WebSify
Follow us on
Mail
Print

Two financial instruments that saved the rupee

Source : BUSINESS_STANDARD
Last Updated: Tue, Sep 17, 2013 10:52 hrs
Raghuram Rajan

Raghuram Rajan managed to successfully stem the rupee’s fall through a series of measures announced on the day he took over as RBI Governor. Among his various announcements, the ones that are actually responsible for rupee appreciation are the ones where the central bank has offered a short term window for banks to swap fresh Foreign Currency Non-Resident (Banks) or FCNR (B) deposits and allowing overseas borrowing limit of Tier I capital for banks to be raised from 50% to 100%.

More importantly, the timeline of November 30, 2013 set by the Governor transmitted the sense of urgency in controlling the rupee. Since this move can see inflows of around $10-15 billion over the next few months, short sellers wisely rushed to cover their position.

But what are these two instruments that have managed to bring in a semblance of normalcy in the markets.

1) Swapping of FCNR (B) deposits

FCNR(B) are deposits designated in a foreign currency and have a tenure of 1 to 5 years. Deposits can be raised from non-resident Indian or foreign citizens of Indian origin.

While FCNR (B) as a debt instrument already existed and the country has nearly $15.4 billion in these deposits, what Rajan has done is allowing swapping of these dollar deposits to rupee at a concessional rate of 3.5%. Market rates for such swaps were around 7%. If one added the cost of FCNR (B) deposit which are 400 basis points over LIBOR a swap rate of 7% was making this instrument unattractive for banks.

Rajan’s big contribution to the instrument which is one of the main reason for the rupee appreciating is allowing swapping at a concessional rate. At these low rates, banks with high NRI client base will be able to raise deposits aggressively. Banking sources say that some of the foreign banks are advising their high net worth NRI clients to take a loan at just over Libor rates and deposit them in FCNR (B) accounts. This way they can earn a risk free 2% after paying for their loan.

It’s the aggressiveness with which banks will market the product will decide the amount of dollars coming in the country. Raising $10 billion in a span of over two months, while previously, the country has only managed to raise $15 billion might look like a tough task, but some bankers are confident that the figure can be surpassed.

2) Borrowing limit increased to 100% of Tier 1 capital

This proposal is unlikely to bring in deposits in the time span mentioned by Raghuram Rajan. The RBI Governor has increased the limit of borrowing up to 100% of their Tier 1 capital from the existing limit of 50%. He has allowed a concessional swap rate of 1% below the existing market rate.

Banks are already sitting on excess cash with little avenue to deploy it. They are investing their excess capital in government bonds. Unless the spread between government bonds and these borrowings are attractive, banks would not like to borrow give the uncertainty on account of political developments.

Rajan could not have timed the announcement better. His counterpart Federal Reserve’s Ben Bernanke is likely to announce a tapering of his bond buying program this week which can take out foreign exchange from the country. The outflow can be balanced from the surge in deposits that are expected.


blog comments powered by Disqus
most popular on facebook
talking point on sify finance