Banks must bear currency risks as RBI hedging facility excludes FCNR(B) deposits
GS3Economy · S&T · Environment · Security· Monetary policy, RBI & banking· Prelims·
Banking sector stability and currency risk management: a relevant GS3 and Economy case study.
Why in news
Kotak Securities analyst Anindya Banerjee highlighted that banks must bear currency risks on interest payments to non-resident depositors as the RBI hedging facility excludes FCNR(B) deposits.
Background
Banks are required to buy dollars forward to manage currency risks on FCNR(B) deposits. A new 20% foreign exchange risk reserve requirement has been introduced, increasing the cost for banks to offer hedges and manage dollar liabilities.
Facts for Prelims
- FactFCNR(B) deposits are excluded from the RBI hedging facility.
- FactBanks face a 20% foreign exchange risk reserve requirement.
- FactBanks must buy dollars forward to manage currency risks on interest payments to non-resident depositors.
Prelims practice question
What is the new foreign exchange risk reserve requirement introduced for banks to manage dollar liabilities?
- (a)10%
- (b)20%
- (c)25%
- (d)15%
Show answer
Answer: (b) 20% — The note states a new 20% foreign exchange risk reserve requirement has been introduced.
For Mains
Q. Discuss the implications of increased currency risk management costs on the stability of the Indian banking sector and the cost of non-resident deposits.
Dimensions to cover in your answer
- Cost-push inflation: Higher premiums on forward dollar purchases increasing the cost of servicing non-resident liabilities.
- Liquidity management: Balancing the 20% risk reserve requirement against the availability of hedging instruments for FCNR(B) deposits.
Keywords: Currency Risk · FCNR(B) Deposits · Forward Contracts · Hedging Facility · Monetary Policy
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