No credit derivatives for now: RBI

The present turmoil in the international financial markets has made the central bank shelve its earlier plans for issuing the final norms in this regard.

The decision to keep the introduction of credit derivatives on hold has been taken to learn from the experience of the financial sectors in the developed countries (read severe liquidity and credit crunch as an outcome of the subprime crisis), RBI said in a statement.

Many international banks have suffered huge losses due to the subprime crisis. The central banks of many countries affected by liquidity and credit crisis had to inject funds into the system. Many instances of non-adherence to the regulatory guidelines on complex products such as credit derivatives has also come to the fore.

Credit derivatives are negotiable bilateral contracts that allow users to manage (hedge) their exposure to risk. These derivatives are financial assets like forward contracts, swaps and options, for which the price is determined by the credit risk.

A senior banker with State Bank of India termed RBI's decision as "appropriate" in the present volatile market conditions (abroad). At present, it is difficult to precisely estimate the risk and price it for derivatives contracts.

A treasury head with a private bank said the demand for credit derivatives will always be there as long as financial players or entities feel they have limited capacity to hold on to the risk from credit loans or advances. This could be passed on to someone with better capacity to manage risk.

RBI had issued the draft guidelines for credit derivatives in March, 2003. However, the central bank deferred its plans to issue the final guidelines the same year after looking at risk management practices prevailing then in the Indian banking system.

Subsequently, RBI, in its annual policy for 2007-08, said it will introduce credit derivatives in a calibrated manner as a part of financial sector liberalisation. The central bank issued modified draft guidelines on Credit Default Swaps on May 16, 2007. Following feedback, it prepared the revised draft norms.

The market for derivatives in India is shallow. According to analysts, though public sector banks have over 70 per cent share in Indian banking assets, foreign and private banks dominate the derivative market.