Industry Odisha Bureau, Oct 13: Overseas users of certain non-deliverable rupee derivatives can now only hedge. Banks’ own rupee hedges now face a 20% cash reserve. The steps aim to support a currency hit by oil prices and outflows.
The fight to steady the rupee has moved into the derivatives market. On Monday, the Reserve Bank of India (RBI) tightened rules on two fronts. It narrowed how overseas clients can use non-deliverable rupee contracts. It also widened a 20% cash reserve to cover banks’ own currency hedges. The steps are the latest in a series announced since Saturday.
The rupee had fallen more than 6% this year. Steep oil prices and capital outflows have driven that slide. India imports much of its oil, so higher prices raise demand for dollars. Outflows add pressure as investors move money out of the country.
Hedging only for offshore users
Non-deliverable derivatives let users manage or take exposure to rupee movements. They are settled in cash, usually in US dollars. No rupees actually change hands. Banks with units in India’s International Financial Services Centre (IFSC) serve offshore-facing business. Along with some primary dealers, they could offer these contracts to non-residents for any purpose. Now they may offer them only for hedging.
Hedging means protecting against an existing currency risk. Speculation means taking a position mainly to profit from exchange-rate moves. The rule narrows their use but does not bar non-resident hedgers. It squeezes room for positions taken purely on exchange-rate views.
A costlier hedge for banks
The second change hits authorised dealers, the banks licensed to deal in foreign exchange. They must now keep a foreign exchange risk reserve on certain hedges. These are rupee derivatives used to hedge risk on their own assets and liabilities. The reserve covers contracts where the dealer buys foreign currency against the rupee. It equals 20% of each contract’s notional amount in rupee terms. The notional amount is the contract’s face value, not its market value.
Banks must deposit the cash with the RBI daily. It stays there until the contract ends. This differs from the cash reserve ratio banks hold against liabilities. It applies only to the qualifying currency contracts. Locking up cash can make such positions costlier to hold. That cash cannot be used elsewhere while the contract runs.
Banks have pushed back. They asked the RBI to scrap the 20% deposit for hedges of current-account exposures. Current-account exposures arise from trade and similar everyday flows. Banks proposed a flat fee instead, according to reports. Whether the RBI will agree remains unclear.
Markets have responded, at least for now. The rupee jumped 1% on Monday after the RBI’s weekend announcements. The gain followed the weekend steps, so its link to Monday’s rules is unclear.
The RBI now faces a balancing act. It wants to curb pressure on the rupee without blocking genuine hedging. Tighter rules may cool speculative activity, but they also raise costs for banks. How markets adjust will show whether that balance holds.
