Free rupee

India for all it’s gargantuan problems has been extremely successful in handling the current account convertibility so far. And any apprehensions one may have had earlier have been clearly dissipated. The havala rate has come crashing down, there is a market exchange rate for dollars, FCNR deposit-risks are borne by the commercial banks and not by the RBI / Government, overseas travellers are a less harassed lot, and the exporters and the corporate sector have had little to complain about.

One of the most critical elements for the success of capital account convertibility will be the health of the overall banking system. And therein lies an onerous challenge. As interest rates gradually get deregulated and corporates get access to global markets for raising resources, both the commercial banks and financial institutions who have so far had a virtual monopoly over the credit needs of the industrial sector will face the dual challenge of rising resource mobilisation costs and increasing pressure on NPAs and capital adequacy norms. Smaller banks will face the prospect of low margins as bigger banks will be able to dictate lending rates owing to lower average cost of their liabilities. One of the biggest challenges will be the preparedness of the bank’s back-office systems to get used to a multi-currency environment and foreign exchange risk management systems.

One can foresee the development of a complex market of derivatives, futures and options and various hedging instruments. Foreign banks will have the advantage of their established systems and wide experience of the sophisticated financial markets of the West which ought to make their transition in their local branches here much easier. But for most other participating banks, used to low volumes and archaic systems the transformation to a hi-tech treasury operations will not be easy. It is germane to point this out, as treasury desks will be perhaps a high profit centre for most banks while it will also be susceptible to huge exposures if improperly managed. The banking industry will witness bigger shake-outs, mergers and acquisitions, and fierce competition. It is thus imperative that besides bringing their bad debts down to the stipulated 5 per cent they have to ensure an effective back-office machinery. There could be many Nick Lesson’s lurking unknown even to themselves round the corner. If the recent relaxations for major PSUs, cut in bank rates, and end-use of GDR and ECB funds is any manifestation, then the countdown to year 2000 AD has begun.