Commercial Banks Seek RBI Relief on 20% Cash Deposit Mandate for Currency Derivatives

Indian commercial lenders have approached the Reserve Bank of India (RBI) through an industry body seeking modifications and clarity on the central bank's aggressive foreign exchange regulations designed to defend the domestic currency.

The banking sector's primary concern centres on the newly established Foreign Exchange Risk Reserve (FERR), which mandates that authorised dealers deposit with the RBI, in cash, 20% of the rupee equivalent of the notional value of eligible derivative contracts above $2 million used to hedge current account foreign currency purchases.

What Banks Are Requesting

Lenders contend that immobilising cash reserves with the central bank creates severe liquidity strain and operational friction.

Key Relief Measures Sought by Lenders:

• Replacing the 20% Cash Deposit with a Flat Fee: Banks have proposed replacing the cash reserve requirement with a transparent flat charge on derivative contracts, allowing institutions to avoid locking up durable liquidity.
• Threshold Tracking Flexibility: Commercial dealers have pointed out that tracking the $2 million transaction-level threshold across multiple hedges creates substantial administrative and compliance burdens.
• Clarity on External Commercial Borrowings (ECBs): Banks have sought explicit confirmation on whether foreign exchange hedges covering interest payments on foreign currency loans fall under the current-account deposit requirement.

The Rupee-Defence Package

The regulatory friction follows an extensive set of measures rolled out by the central bank on October 10 to check speculative pressure on the Indian rupee, which had approached a record low of 96.9650 per US dollar.

Major Currency-Defence Steps Introduced:

• Special Dollar Window for Oil Refiners: The RBI opened a direct dollar window for state-run oil marketing companies (OMCs), diverting heavy crude import demand away from the spot market.
• Derivatives Rebooking Ban: Authorised dealers are barred from permitting clients to rebook cancelled rupee-linked foreign exchange derivative contracts, although maturity rollovers continue to be permitted.
• Reduction of Speculative Limits: The threshold for executing forex derivative contracts without establishing an underlying commercial exposure was reduced from $100 million to $5 million.
• Liquidity Tightening Operations: The RBI raised the minimum daily Cash Reserve Ratio (CRR) maintenance requirement from 90% to 99% and announced open market sales of government securities worth ₹25,000 crore.

Market Impact and Liquidity Drain

The swift interventions triggered an immediate currency bounce, with the rupee appreciating over 1% to open at 95.73 against the US dollar on Monday compared to Friday's close of 96.76. Forward premia softened as importer panic hedging eased.

However, analysts note that the rules come at a significant cost to domestic liquidity. Research from Kotak Mahindra Bank estimates that the combined forex curbs could withdraw approximately ₹1.5 lakh crore in durable liquidity if maintained for a month. IDFC FIRST Bank projected that banking system core liquidity could shrink from ₹10.4 lakh crore seen in early October to around ₹2 lakh crore by March 2027 under the weight of liquidity operations, currency leakage, and balance-of-payments outflows.

If the central bank concedes to banking demands by converting the 20% cash lock-in into an administrative charge, corporate treasuries could gain clearer visibility over hedging expenses without straining interbank money market liquidity.

Tags: RBI Indian Rupee FEDAI Banking Sector USDINR Forex Derivatives