RBI and EEFC

Janaki Krishnan/Netscribes

The Reserve Bank of India's decision to scale down balances under the EEFC (Exchange Earners' Foreign Currency) Accounts Scheme, is an expected measure from the point of view of injecting liquidity into the system and helping stem the rupee's slide.

The RBI has said that exporters would have to 'scale down balances in the EEFC accounts to 50 per cent of the amount held on August 11, 2000. The excess would have to be converted to rupees by August 23, 2000'. At present, exporters can retain 50 per cent of their export earnings in EEFC accounts (where the interest rates are linked to Libor). So the current measure means that only 25 per cent can be retained in such accounts.

The central bank had adopted similar tactics in the past, when diamond exporters were found to be retaining large export balances beyond the 90 days limit. At that point in time, the RBI had imposed a penal interest rate on retention beyond the stipulated time.

The impact of RBI's latest announcement will depend largely on the validity of the new measures. If the market perceives it as temporary, designed mainly for fire-fighting purposes, it might not prove very effective.

According to RBI, the balances in the EEFC accounts aggregate $2 billion. Bringing in $1 billion into the system in the immediate term will result in an immediate rise in the rupee value vis a vis the dollar. However, in the long term, the forex market could well discount this and the other longer term measure of permitting future accretions of only up to 50 per cent of what is currently eligible.

In a volatile forex market, with the rupee tending to depreciate sharply, RBI's actions, however, may have the opposite effect.

Exporters who also have significant import requirements, find it convenient to retain foreign exchange overseas as it serves as a hedge against the depreciation in the rupee. Dollar retention is of use if these balances can be set off against any imports. It saves exporters the risk of converting their dollar inflows into rupees and then reconverting it when their import requirements materialise.

However, if exporters do not have sufficient retention in their EEFC accounts due to the scaling down of balances, they will be forced to finance their import requirements through spot dollar purchases; pushing up import costs, in turn leading to higher domestic prices.

In most cases, however, a good portion of exporters keep these balances for their own benefit. The EEFC accounts are not put to any use apart from earning interest for the exporters. Sometimes these are not even brought into the books of accounts and in some cases the Income Tax department does not get suitable information on them.

When viewed in this perspective, the central bank's decision to force exporters to bring back the dollars and convert them into rupees is in the national interest as it will bring more liquidity into the forex market and balance the artificial scarcity created by demand from importers.

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