67. The annual policy Statement of April 2002 had reviewed the issue and made certain suggestions which, inter alia, include: (a) introduction of flexible interest rate system (together with fixed rate option) for all new deposits with reset of interest rate at six-monthly intervals; and (b) enabling banks to pay interest at contracted rates on the existing long-term deposits for the period already run and to waive penalty for premature withdrawal if the same deposit is renewed at a variable rate.
68. In order to further improve flexibility, banks have been given freedom to decide the period of reset on variable rate deposits. According to the latest available information, some banks have already introduced variable rate deposits. Although the depositors response to variable rate deposits has not been very favourable so far, banks are encouraged to make efforts to popularise flexible deposit schemes among the depositors as these are in the long-term interest of banks as well as depositors.
(b) Prime Lending Rate and Spread
69. The annual policy Statement of April 2002 had indicated that spreads over PLR of some banks are substantial. Banks were, therefore, urged to review the maximum spreads over PLR and reduce them wherever they were unreasonably high. A few banks have reduced marginally their maximum spreads. The Reserve Bank has been monitoring maximum spread over PLR and also the range of lending rates at which maximum business is contracted under a new information system. According to the latest available information, both PLR and spread are varying widely across banks/bank-groups. Ideally, in a competitive market, PLRs among various banks/bank-groups should converge to reflect credit market conditions. Moreover, spreads around the PLR should be reasonable. In the current environment of low inflation, unreasonably wide spreads could adversely affect the overall credit portfolio of banks. Furthermore, very wide spreads provide opportunities for non-transparency. In order to ensure appropriate pricing of loans, banks are encouraged to review both their PLRs and spreads and align spreads within reasonable limits around PLR subject to approval of their Boards.
(c) Interest Rates on Deposits by Co-operative Banks/Regional Rural Banks/Local Area Banks
70. Interest rates on deposits have been deregulated except deposits in savings bank accounts, which is currently prescribed by RBI at 4.0 per cent. However, discretion was given to Regional Rural Banks (RRBs)/Local Area Banks (LABs) to pay additional interest of half per cent per annum over and above the interest rate prescribed for scheduled commercial banks. Similarly, Urban Co-operative Banks (UCBs) are allowed to pay additional interest not exceeding one per cent on the savings deposits maintained with them.
71. Scheduled commercial banks are not allowed to pay interest on current accounts maintained with them. However, sponsor banks have been given the discretion to pay interest on current account at mutually agreed rate for RRBs sponsored by them. In a similar way, co-operative banks (Urban/Central/State) are permitted to offer at their discretion, interest rate not exceeding half per cent per annum on current accounts.
RRBs/LABs and co-operative banks are encouraged not to pay any additional interest on the savings bank accounts over and above what is payable by commercial banks. Co-operative banks are encouraged not to pay interest on current accounts. Sponsor banks are encouraged not to pay interest on the current accounts maintained by RRBs with them.
(d) Interest Rates on Rupee Export Credit
73. Interest rates on export credit in rupee terms were rationalised and ceilings were prescribed for both pre-shipment and post-shipment credit linked to PLR in April 2001. Considering the unusual international developments, effective September 26, 2001, as a temporary measure, the ceiling rates on export credit were reduced to 2.5 percentage points below PLR for pre-shipment credit upto 180 days and post-shipment credit upto 90 days, and to PLR plus 0.5 percentage point for pre-shipment credit beyond 180 days and upto 270 days and post-shipment credit beyond 90 days and upto 180 days. In order to facilitate exporters to avail of credit at lower interest rates which are internationally competitive, the validity period of this policy measure was extended initially upto September 30, 2002 and subsequently upto April 30, 2003.
74. The spread between ceiling rates of export credit in rupee terms relating to two time buckets is as high as 3 percentage points. The actual interest rates charged by banks on export credit in rupee terms in many cases are actually lower than the ceiling rates stipulated by RBI. Moreover, the ceiling rate of 50 basis points above PLR for pre-shipment credit beyond 180 days and upto 270 days and post-shipment credit beyond 90 days and upto 180 days has lost its significance in view of the freedom given to banks for lending at sub-PLR rates to creditworthy borrowers. Exporters being prime borrowers could normally avail of export credit at sub-PLR rates.
75. In the annual policy Statement of April 2002, it was indicated that linking of domestic interest rates on export credit to PLR has become redundant in the present circumstances as effective interest rates on export credit in rupee terms are substantially lower than the PLR. Therefore, a proposal was mooted to deregulate ceiling rates on export credit in rupee terms and thereby encourage greater competition among banks to extend such credit at lower rates to exporters with good track record. In this direction, and with a view to encouraging competition among banks and also to increase flow of credit to the export sector, it is proposed to liberalise interest rates on export credit in rupee terms in two phases.
Accordingly, it is proposed that:
In the first phase, the ceiling rate of PLR plus 0.5 percentage point on pre-shipment credit beyond 180 days and upto 270 days and post-shipment credit beyond 90 days and upto 180 days will be deregulated with effect from May 1, 2003. Banks would have freedom to charge PLR or sub-PLR rates subject to approval of their Boards. In the second phase, with effect from a date to be announced later, it will be considered whether the ceiling rates on pre-shipment credit upto 180 days and post-shipment credit upto 90 days should also be discontinued to encourage greater competition in the interest of exports.
(e) Flexibility in the Repayment of Export Credit
76. At present, the pre-shipment credit granted to an exporter is liquidated out of export bills purchased/discounted after shipment of goods. Based on the representations received from exporters/export associations, it has been decided that:
Subject to mutual agreement between the exporter and the banker, the repayment/prepayment of pre-shipment credit would henceforth be permitted. For this purpose, balances held in the EEFC account of the exporter can also be used. While utilising this facility, exporters are advised to strictly adhere to the current regulations in regard to repatriation of export proceeds within the stipulated period. Detailed guidelines are being issued separately. This facility would be available until further notice.
(f) Interest Rate on FCNR(B) Deposits
77. In the annual policy Statement of April 2002, the ceiling rates on FCNR(B) deposits were revised downward to LIBOR/SWAP rates for the corresponding maturities minus 25 basis points. Keeping in view the representations received from banks about their difficulty in pricing Yen deposits due to very low LIBOR/SWAP rates, the ceiling rate for Yen deposits was relaxed. Banks are free to decide FCNR(B) deposit rates denominated in Yen which may be equal to or less than LIBOR/SWAP rates of corresponding maturities till further notice. Interest rate ceiling on FCNR(B) deposits denominated in other currencies will remain unchanged at the prevailing level of LIBOR/SWAP rates of corresponding maturities minus 25 basis points.
Short-term Liquidity Assessment Model
78. As mentioned in the annual policy Statement of April 2002, a short-term liquidity forecasting model, developed under the guidance of eminent academic experts, is currently being used for internal evaluation and information. The generic form of the model has also been made available on the RBI website for wider public debate. As any technical work of this type requires continuous refinements, RBI welcomes comments/suggestions on the model.
79. A number of structural measures have been initiated to ensure balanced development of various segments of the money market as also to preserve its integrity and transparency. While implementing these measures, it is desirable to take cognisance of the progress of developments made in other market segments and payments system infrastructure.
80. In order to preserve the integrity of the financial system and to facilitate the development of term money and repo markets, the annual policy Statement of April 2002 had proposed the placing of prudential limits on both borrowing and lending of banks in call/notice money market. After further consultations with select banks, RBI stipulated these limits in a circular issued on June 27, 2002.
These stipulations have come into effect in two stages from the fortnight beginning October 5, 2002. It is proposed to convene a meeting of the representatives of select banks in the second half of November 2002 to review money market developments. Non-banks may continue to lend, on an average in a reporting fortnight, upto 85 per cent of their average lending during 2000-01 as hitherto till further notice.
Rationalisation of Standing Facilities
86. The utilisation of the ECR facility has remained very low during the year so far in view of existing liquidity position in the economy. Since LAF has emerged as a very effective instrument in providing cushion to the market and with a view to furthering the process of phasing out sector-specific standing facility in an environment of low CRR, it is proposed that:
Apportionment of normal and back-stop facilities which is presently in the ratio of two-thirds to one-third (67:33) will be changed to one-half each (50:50) from the fortnight beginning November 16, 2002.
(b) Certificates of Deposit
87. In order to increase investor base, minimum size of issues of Certificates of Deposit (CDs) by banks and Financial Institutions (FIs) to a single investor has been reduced to Rs.1 lakh and in multiples of Rs.1 lakh in June 2002. In consonance with the announcement of annual policy Statement of April 2002, FIMMDA has issued standardised procedures, documentation and operational guidelines for issue of CDs on June 20, 2002. In order to impart more transparency and to encourage secondary market transactions, the existing outstanding CDs were required to be converted into demat form by October 2002. As per extant regulations, CDs are required to be issued at a discount to face value and the issuing bank is free to determine the discount rate. With a view to providing more flexibility for pricing of CDs and to give additional choice to both investors and issuers, it is proposed that:
Banks and FIs may issue CDs on floating rate basis provided the methodology of computing the floating rate is objective, transparent and market-based.
(c) OTC Rupee Derivatives
88. Foreign Exchange Management Act (FEMA), 2000 permits banks risk management tools like Swaps, Options, Caps, Collars and Forward Rate Agreements in order to hedge interest rate risks involving foreign currency liabilities in the over-the-counter (OTC) market. SEBI has allowed the use of options on indices and individual stocks on the exchanges. With regard to OTC rupee derivatives, RBI has also allowed, from July 1999, scheduled commercial banks (excluding RRBs), PDs and all-India financial institutions to undertake Forward Rate Agreements/Interest Rate Swaps (FRAs/IRS) as plain vanilla products for their balance sheet management and market making. Since then, there has been substantial increase in volume in the FRAs/IRS market with 5,700 contracts having notional principal amount of Rs.1,32,000 crore by September 2002. In order to enlarge the menu for managing interest rate risks for banks and other financial intermediaries as well as corporates in the rupee derivatives market, it is proposed:
To set up a Working Group with appropriate representations from the market to look into, inter alia, the possible ways of extending types of derivatives that are available in the foreign currency segment to rupee derivatives. The Group will also review the guidelines for OTC rupee derivatives in India and suggest further developments in this market.
Government Securities Market
89. In an effort to provide further transparency and stability in government securities market, a number of measures have been put in place by RBI during 2002-03 so far. These measures, inter alia, include announcement of a half-yearly calendar for Government of India dated securities, mandatory holding of government securities by both wholesale and retail investors in dematerialised form, disseminating NDS data on near real-time basis on the RBI website. The Reserve Bank has also been making sustained efforts to increase the investor base of government securities market by encouraging retailing of government securities.
Further, efforts have been made to impart greater flexibility to both issuer and investors of government securities through introducing STRIPS, floating rate bonds and bonds with call/put option. The progress in this direction is reviewed below.