RBI tightens rules for forex bets to shield bruised rupee

The Indian currency has been under pressure from persistent foreign capital outflows and rising fuel prices. It closed at 96.73 per dollar on Friday, near its all-time low of 96.82. The unit had touched a record intraday low of 96.96 in May.

The RBI also restricted the rebooking of cancelled contracts and imposed a 20% cash reserve requirement on forex derivative contracts above $2 million. It announced a special window to meet the daily dollar needs of three public sector oil marketing companies: BPCL, HPCL and IndianOil.

"The measures are intended to strengthen market discipline and ensure appropriate risk management in the foreign exchange market, while maintaining an orderly and transparent market environment," the RBI said in its announcement.

This year, the rupee has lost about 7%, making it one of the worst-performing Asian currencies. "The measures are intended to curb speculative dollar demand, particularly from importers. They have done this by introducing a new Foreign Exchange Risk Reserve (FERR) for derivative contracts above $2 million where authorised dealers will have to maintain cash of 20% of rupee equivalent," said Ashhish Vaidya, head of treasury, DBS Bank.

Authorised dealers will not be allowed to let users rebook forex derivative contracts involving the rupee, whether deliverable or non-deliverable, if the contracts were cancelled with any bank after the directions were issued.

Rollover of contracts on maturity will continue to be permitted, subject to existing regulations.

The RBI has also cut the threshold for forex derivative transactions that can be undertaken without establishing an underlying exposure from $100 million to $5 million.

A corresponding reduction has been introduced in exchange-traded currency derivatives involving the rupee, across stock exchanges.

Bankers said the move to impose the 20% FERR levy will make it almost impossible for importers to hedge their exposure and could lead to a collapse in forward premiums. Forward premiums surged across tenures following the central bank's dollar-rupee sell-buy swaps, which were primarily intended to absorb the excess rupee liquidity from the interbank system.

"The 20% levy will make it more expensive to hedge large dollar transactions and could reduce dollar/rupee premiums. This, together with taking OMC dollar demand out of the market and reducing the threshold for forex derivative contracts to $5 million, will impact dollar demand and support the rupee," Vaidya said. Some bankers said the measures are restrictive and could curb market activity and distort the rupee's market-determined value.