 "Urjit Patel and Raghuram Rajan")
India would do well to initiate small and steady reforms, but should not relax regulations just because an entity or activity is deemed important for the nation, said Raghuram Rajan, the outgoing governor of the central bank on Friday.
Instead of asking the regulators to relax norms, the government should provide direct subsidy to important activities like infrastructure, Rajan said in his address at the annual day function of the Foreign Exchange Dealers' Association of India (Fedai), of which a copy of the speech was available on the central bank website.
“Observers may be impatient, but my belief is that steady and irreversible reform and ‘mini bangs’ like Thursday's rather than ‘big bang’ is the need of the hour,” Rajan, who demits office on September 4, said, adding, “Yesterday’s announcements were simply the next steps in a steady, measured liberalisation.”
The RBI governor refused to relax norms around the infrastructure space, as too much of relaxation could raise the systemic risk. Banks have lobbied for special compensation for infrastructure projects. While the central bank has allowed various restructuring schemes, including one that matches debt-servicing with potential cash-flow of projects, lobby groups have demanded more.
“While the Reserve Bank of India (RBI) is a liberaliser, we have to be careful not to relax prudential regulations, simply because an entity or activity is deemed of national importance,” Rajan said, adding, “A nationally important activity such as infrastructure may be very risky.” And, therefore, to require lower provisions, or to allow higher leverage or external commercial borrowings against such activities, may increase systemic risk.
In the long run, the activity itself could get damaged by regulatory dispensation, as too many infrastructure projects that do not have dollar earnings will be financed with dollar or yen loans and cannot repay, in which case stability would be compromised.
“It is far better for the government to directly subsidise such activities, if it deems them important than for RBI to sacrifice systemic stability on the altar of national importance,” said Rajan. RBI on Thursday announced a spate of measures to deepen the bond and currency markets. The central bank allowed banks to raise rupee resources through masala bonds as well as gave foreign investors direct access to the bond trading platforms.
Besides, the central bank also allowed customers to hedge up to $30 million, while letting banks have their customers an additional $5 million of open positions in the currency market. This essentially will encourage speculation in the market, but Rajan said some amount of speculation is also needed to add depth in the market.
“So long as there is no concerted move to manipulate markets (and this concerted manipulation can be prevented by regulation), the varied opinions of speculators can provide liquidity, which, in turn, can make the markets more immune to manipulation,” Rajan said in his speech, adding, “In other words, excessive fear of speculation in markets is self-fulfilling – it renders markets illiquid and prone to manipulation.”
RBI can increase bank open position limits, and will do so over time, but it won’t be prudent for now. “A better option would be to allow more players to hold open positions without an underlying, with some limits so that we do not get excessive speculation or attempts at manipulation by single traders. This can rectify market imbalances, improving exchange market liquidity and depth, without imposing large demands on banks or on the RBI,” Rajan said.
Rajan hailed the issuances of the recent masala bonds in the international market and said it reflected a “coming of age” of Indian debt.
“… for the first time in recent decades, the rupee’s value is trusted enough in international markets that corporations can issue there in domestic currency. Going forward, we hope a more vibrant masala bond market abroad will complement a vibrant domestic corporate bond market.”
So far, HDFC, NTPC and Adani Transmission have raised Rs 5,500 crore through masala bonds and many more well-rated companies are expected to follow suit.
Even though foreign direct investment flows in the country are enough to cover the current account deficit, RBI still encourages inflows into the debt markets to improve depth and liquidity. And this explained why foreign portfolio investors should have higher limits in government debt with a plan spelt out clearly towards further opening up.
“In general, our aim is to liberalise steadily, but in a thoughtful way, continuously asking how further liberalisation will strengthen our domestic markets,” Rajan told Fedai, a copy of the speech copy was uploaded on the RBI website.
As a sign that the corporate debt market has indeed matured and has developed as a reliable source to raise funds, highly rated firms are now bypassing banks to borrow from the commercial paper markets, “with outstanding commercial paper having more than doubled in the last two years to over 3 lakh crores.”
This is because banks have yet not passed on the policy rate cuts fully in their lending rates, whereas the money market has fully reflected the 150 basis points rate cut that RBI executed since January 2015.
In any case, banks should be spared from extending all kinds of credit and borrowers should move to the market or alternate sources of funds to raise money for their risky ventures.
“… the problem in India is too much risk ends up on bank balance sheets, either directly or indirectly,” he said, adding, “it would be better from the perspective of systemic risk if they replaced bank debt with market borrowing.”
One way to add liquidity in the market is to allow borrowing pledging corporate bonds, which the central bank proposed to allow on Thursday.
“As banks become able to borrow against their high quality corporate bonds, yields will fall, and more issuers will come to the market,” the RBI governor said. Rajan said his successor Urjit Patel, who has worked closely with himon monetary policy for the last three years, will ably guide the “Monetary Policy Committee (MPC) going forward in achieving our inflation objectives.”
Even as July’s inflation reading was a high 6.07 per cent, Rajan said he had no doubt, “that inflation would fall in the months ahead.”
The knowledge that the MPC has to maintain low and stable inflation over the next five years “lowers the inflation risk premium, and thus reduces the nominal fixed interest rate for everyone, from the government to the riskiest borrower,” Rajan said.
Instead of asking the regulators to relax norms, the government should provide direct subsidy to important activities like infrastructure, Rajan said in his address at the annual day function of the Foreign Exchange Dealers' Association of India (Fedai), of which a copy of the speech was available on the central bank website.
“Observers may be impatient, but my belief is that steady and irreversible reform and ‘mini bangs’ like Thursday's rather than ‘big bang’ is the need of the hour,” Rajan, who demits office on September 4, said, adding, “Yesterday’s announcements were simply the next steps in a steady, measured liberalisation.”
The RBI governor refused to relax norms around the infrastructure space, as too much of relaxation could raise the systemic risk. Banks have lobbied for special compensation for infrastructure projects. While the central bank has allowed various restructuring schemes, including one that matches debt-servicing with potential cash-flow of projects, lobby groups have demanded more.
“While the Reserve Bank of India (RBI) is a liberaliser, we have to be careful not to relax prudential regulations, simply because an entity or activity is deemed of national importance,” Rajan said, adding, “A nationally important activity such as infrastructure may be very risky.” And, therefore, to require lower provisions, or to allow higher leverage or external commercial borrowings against such activities, may increase systemic risk.
In the long run, the activity itself could get damaged by regulatory dispensation, as too many infrastructure projects that do not have dollar earnings will be financed with dollar or yen loans and cannot repay, in which case stability would be compromised.
“It is far better for the government to directly subsidise such activities, if it deems them important than for RBI to sacrifice systemic stability on the altar of national importance,” said Rajan. RBI on Thursday announced a spate of measures to deepen the bond and currency markets. The central bank allowed banks to raise rupee resources through masala bonds as well as gave foreign investors direct access to the bond trading platforms.
Besides, the central bank also allowed customers to hedge up to $30 million, while letting banks have their customers an additional $5 million of open positions in the currency market. This essentially will encourage speculation in the market, but Rajan said some amount of speculation is also needed to add depth in the market.
“So long as there is no concerted move to manipulate markets (and this concerted manipulation can be prevented by regulation), the varied opinions of speculators can provide liquidity, which, in turn, can make the markets more immune to manipulation,” Rajan said in his speech, adding, “In other words, excessive fear of speculation in markets is self-fulfilling – it renders markets illiquid and prone to manipulation.”
RBI can increase bank open position limits, and will do so over time, but it won’t be prudent for now. “A better option would be to allow more players to hold open positions without an underlying, with some limits so that we do not get excessive speculation or attempts at manipulation by single traders. This can rectify market imbalances, improving exchange market liquidity and depth, without imposing large demands on banks or on the RBI,” Rajan said.
Rajan hailed the issuances of the recent masala bonds in the international market and said it reflected a “coming of age” of Indian debt.
“… for the first time in recent decades, the rupee’s value is trusted enough in international markets that corporations can issue there in domestic currency. Going forward, we hope a more vibrant masala bond market abroad will complement a vibrant domestic corporate bond market.”
So far, HDFC, NTPC and Adani Transmission have raised Rs 5,500 crore through masala bonds and many more well-rated companies are expected to follow suit.
Even though foreign direct investment flows in the country are enough to cover the current account deficit, RBI still encourages inflows into the debt markets to improve depth and liquidity. And this explained why foreign portfolio investors should have higher limits in government debt with a plan spelt out clearly towards further opening up.
“In general, our aim is to liberalise steadily, but in a thoughtful way, continuously asking how further liberalisation will strengthen our domestic markets,” Rajan told Fedai, a copy of the speech copy was uploaded on the RBI website.
As a sign that the corporate debt market has indeed matured and has developed as a reliable source to raise funds, highly rated firms are now bypassing banks to borrow from the commercial paper markets, “with outstanding commercial paper having more than doubled in the last two years to over 3 lakh crores.”
This is because banks have yet not passed on the policy rate cuts fully in their lending rates, whereas the money market has fully reflected the 150 basis points rate cut that RBI executed since January 2015.
In any case, banks should be spared from extending all kinds of credit and borrowers should move to the market or alternate sources of funds to raise money for their risky ventures.
“… the problem in India is too much risk ends up on bank balance sheets, either directly or indirectly,” he said, adding, “it would be better from the perspective of systemic risk if they replaced bank debt with market borrowing.”
One way to add liquidity in the market is to allow borrowing pledging corporate bonds, which the central bank proposed to allow on Thursday.
“As banks become able to borrow against their high quality corporate bonds, yields will fall, and more issuers will come to the market,” the RBI governor said. Rajan said his successor Urjit Patel, who has worked closely with himon monetary policy for the last three years, will ably guide the “Monetary Policy Committee (MPC) going forward in achieving our inflation objectives.”
Even as July’s inflation reading was a high 6.07 per cent, Rajan said he had no doubt, “that inflation would fall in the months ahead.”
The knowledge that the MPC has to maintain low and stable inflation over the next five years “lowers the inflation risk premium, and thus reduces the nominal fixed interest rate for everyone, from the government to the riskiest borrower,” Rajan said.
