Banks Face Pressure After RBI Tightens Forex Rules

Banks have approached the Reserve Bank of India (RBI) with concerns over the new rule that caps net open position (NOP) in the onshore currency market at $100 million.

The measure is aimed at checking the rupee’s fall, but the short deadline for compliance has created pressure on treasury operations.

Large banks are estimated to be holding net open positions of around $250–300 million. Bringing these down within a limited time frame means unwinding positions quickly, which could lead to mark-to-market losses in the March quarter this year.

How Does It Affect Treasury And Earnings?

Earlier, banks were allowed to maintain positions up to 25% of their capital, giving them flexibility in managing currency exposure.

The new cap changes that approach; banks may now have to reduce positions, especially in forward contracts, where they generally earn arbitrage income.

The fact that the window to make these changes is short makes the situation more difficult, as it is highly likely that losses would need to be covered in the current quarter itself.

This could result in weaker treasury performance compared to earlier periods.

What Is The Impact On Currency Markets?

The shift is also expected to influence the overall behaviour of currency markets. A significant reduction in dollar holdings might raise the availability of dollars in the very short run, which should, on the other hand, help the rupee maintain its ground.

Meanwhile, transactions may be predominantly moved to offshore markets where no similar restrictions are enforced.

Such a shift could potentially result in a bigger discrepancy between onshore and offshore prices, capturing foreign investors with higher hedging costs.

Besides that, it might lead to a reduced supply of cash in the home market because banks will be getting used to the new restrictions and consequently participate less in certain trades.

The RBI has rolled out these fresh guidelines to stop the decline of the Indian rupee, which has plunged to a record low of 94.81 per dollar on 27 March.

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What Investors Can Expect Next?

Banks could be the ones suffering a hit for some time due to unwinding losses as well as a decline in the trading revenue.

Currency trading may still be shaky while transformation is happening and the cash in the onshore and offshore parts is being reallocated.

Investors might be attentively observing how very quickly banks change, if any loosening in the schedules is given, and how these modifications are seen in the coming quarterly results.

Sources:

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Business Standard