The Securities and Exchange Board of India's (Sebi) proposal to allow
foreign institutional investors (FIIs) in currency futures trading may
curtail the Reserve Bank of India's (RBI) ability to intervene in the
foreign exchange market. This has created tension in the market. "FIIs'
entry into currency futures trading can curtail RBIs ability to intervene
in the foreign exchange market," said Clearing Corporation of India
(CCIL) Chairman R H Patil. All currency forward contracts with a daily
volume of $35-40 billion are settled by CCIL.
If FIIs would be allowed in the currency futures market, then the
country should be ready for investors like George Soros, added Patil.
In 1992, George Soros had sold the pound in a big way in the UK's currency
futures market by only paying the margin. This had led to a plunge in
the British currency, forcing the Bank of England (BoE) to buy all the
pounds to support the currency, thereby forcing the UK's central bank
to spend a lot of money. The move ultimately led BoE to give up the
fixed rate for the pound and go for a free float. India is certainly
not prepared for such eventualities, said Patil, suggesting: "If
FIIs have to be allowed, there should then be a cap on their open interest
position in currency futures."Since there is no need for an underlying
exposure in the currency futures market as in the case of currency forwards,
FIIs and hedge funds may take one-sided positions and make life difficult
for the central bank.