Reserve Bank of India (RBI) Governor D Subbarao on Friday indicated the recent curbs on currency futures markets would continue till stability was seen in foreign exchange rates.
“In RBI’s view, undue volatility in exchange rate is harmful to the growth and stability of the economy, and such volatility must be curbed,” he said.
About 10 weeks ago, RBI and the Securities and Exchange Board of India (Sebi) had imposed certain restrictions on the futures markets by way of raising margins and limiting the positions market participants could take.
Proprietary trading by banks was also prohibited. These measures were aimed at curbing undue speculation, resulting in volatility in exchange rates, Subbarao said at an awards function at the Institute for Development and Research in Banking Technology here.
“We will roll back these measures only after we determine stability has returned to the forex market,” he said. On Friday, the rupee was hovering at Rs 60.66 against the dollar.
Subbarao said RBI had always followed responsible regulation of financial markets, while balancing the interests of stakeholders.
He added while regulating financial markets, the central bank followed three broad principles: First, the menu of financial products available to hedge emergent risks should be widened; second, the introduction of new products should follow a gradual process dictated by the acceptance of products by market participants; and third, the robustness of the marketing structure for the settlement and clearance of existing, as well as new financial products, should be improved.
Following these principles, RBI had set up over-the-counter (OTC) derivatives to meet the hedging needs of the real sector by asking participants to participate in the OTC derivatives market as underlying exposure and, at the same time, imposed limits on positions to prevent excessive risk-taking.
After the currency forwards markets stabilised, it had focused on the development of the currency futures markets, which do not require underlying exposure. Subsequently, it focused on the rupee-dollar exchange market, which was later extended to other currencies, Subbarao said.
He added RBI had always adopted a pragmatic approach to evolving situations, instead of remaining dogmatic, even in the face of changing situations. He cited the example of allowing corporations to apply for banking licences as a departure from earlier rounds of banking licence issuances---the decision was guided by the larger public interest, with in-built precautions against any misuse.
Financial markets lacked a self-correcting mechanism and a bubble in the financial system was hard to detect in real time, he said. Therefore, the regulation of innovation in financial markets was as important as the regulation of other aspects, he added.
