RBI suggests more curbs on VC funds

Measures targeted at managing surging capital inflows.

The Reserve Bank of India (RBI) has recommended to the finance ministry a series of measures to curb investment flows from venture funds and into real estate.

These measures are expected to help check part of the huge inflows of foreign capital, particularly since the last week of July, and plug loopholes in foreign investment norms.

Among the recommendations, RBI has suggested restrictions on investments by venture capital funds in sectors that are already developed and booming.

The central bank has also suggested that FDI in real estate be brought under the approval route "" such investment is currently under the automatic route.

The RBI has suggested that there should be end-use restrictions for investments by foreign venture capital funds. It has said that venture funds by definition should be investing in high-risk ventures in which entrepreneurs are unable to access capital and not in mature sectors like real estate.

It has also sought a time-frame within which companies have to allot shares to foreign entities after receiving advance payments. This is designed to curb a practice by Indian companies of using advance payments from foreign sources as loans and then returning the money.

Such transactions amount to overseas borrowings without restrictions. Overseas borrowings are currently locked in for a minimum of three years and the interest paid is capped at 150 basis points above the benchmark London Interbank Offered Rate (Libor) for borrowings of three years and above; and 250 basis points above Libor for borrowings of five years and more.

The RBI has also suggested a clear policy for investments by non-resident Indians (NRIs) in commercial real estate in India.

At present, NRIs are permitted to invest in two residential flats/apartments in India but there is no policy on their investment in commercial real estate.

Surging foreign investments have seen the country's foreign exchange reserves swell over $50 billion to $251.33 billion in the first six months of 2007-08.

The purchase of foreign currency by the RBI to check rupee appreciation, which impacts exporter earnings, is leading to an infusion of rupee liquidity and has a high potential to fuel inflation.

The RBI has already taken several steps to absorb the excess liquidity, raising the cash reserve ratio (CRR) "" the proportion of deposits banks must keep with the central bank "" one percentage point this financial year.

It also recently raised the ceiling on government bond issues under its market stabilisation scheme (MSS) to Rs 2,00,000 crore from Rs 1,10,000 crore at the beginning of the year.