Module: | MODULE A: INTERNATIONAL BANKING
Q183: Consider the following statements regarding the hedging of foreign exchange risk in India:
1. Resident Indian entities are permitted to enter into foreign currency derivative contracts with Authorized Dealers specifically to hedge their actual, documented foreign exchange exposures.
2. Small and medium enterprises are allowed to book forward contracts without producing underlying documentary evidence up to a certain limit specified by the Reserve Bank of India.
3. Foreign Portfolio Investors are strictly prohibited by the Reserve Bank of India from hedging their currency risk in the Indian onshore foreign exchange market.
Which of the statements given above is or are INCORRECT?
2. Small and medium enterprises are allowed to book forward contracts without producing underlying documentary evidence up to a certain limit specified by the Reserve Bank of India.
3. Foreign Portfolio Investors are strictly prohibited by the Reserve Bank of India from hedging their currency risk in the Indian onshore foreign exchange market.
Which of the statements given above is or are INCORRECT?
✅ Correct Answer: C
🎯 Quick Answer:
Option C is correct because only statement 3 is incorrect.Structural Breakdown: The Reserve Bank of India allows residents to use tools like forward contracts and options to lock in exchange rates, provided they have a genuine underlying exposure, such as an upcoming import payment.
To ease doing business, small enterprises have a carve-out allowing limited hedging without heavy paperwork.
Statement 3 is false because Foreign Portfolio Investors who invest in Indian stocks or bonds are explicitly permitted to hedge their Indian Rupee exposure in the onshore market to protect the value of their investments from currency depreciation.
Historical Context: As the Indian Rupee experienced bouts of severe volatility in the last decade, the central bank progressively relaxed hedging norms to allow foreign investors to protect their capital, thereby encouraging more stable foreign investment inflows.
Causal Reasoning: The causal logic for permitting Foreign Portfolio Investors to hedge onshore is to prevent them from moving their currency trades to offshore, unregulated markets.
Keeping the trading onshore allows the Reserve Bank of India to maintain visibility and control over the liquidity and pricing of the Indian Rupee.