Parliamentary panel calls to simplify processing of LC's

The Parliamentary Standing Committee on Commerce on Monday said that the Reserve Bank of India (RBI) did not make enough consultations before discontinuing the issue of the Letter of Understanding (LoU)/Letter of Comfort (LoC) while terming the move as a 'knee jerk reaction' by the central bank due to recent bank frauds.

The Committee, headed by Rajya Sabha Member of Parliament, Naresh Gujral, in its report said the RBI should have done more scrutiny before going ahead with the decision to ban LoU and LoC. It further stressed on the need to streamline and simplify the processing of the Letters of Credit (LC's) issued by the banks.

The RBI had in March this year discontinued providing LoU/ LoC as instruments of trade credit in the wake of Punjab National Bank scam.

"The Committee notes that the RBI has in a response to the comments sought by the Department of Financial Services about the impact of discontinuation of LoU's/LoC's on credit cost for short term foreign currency loan has stated that there is no comparative reporting to RBI of quantum or cost of trade finance through LoU's/LoC's and other available avenues of raising short term foreign currency finance," the Committee mentioned in its report.

"It is a typical case of throwing baby with the bath water and it must be stopped," the Committee said in its report while recommending that the LoU/LoC should be restored at the earliest with proper safeguards," the Committee's report said.

Further, the Committee noted that the trade and industry has also been burdened with the demand for higher collateral by the banks which will adversely impact the competitiveness of the sectors.

While lauding the efforts by RBI for better prudence and regulations in the banking sector in view of the misappropriation committed on banks, the Committee observed: "It has been noticed that the prudence has often been interpreted as overwhelming caution by the banks and regulations sometimes borders on stifling trade and industry."

"Discontinuation of the practice of issuance of LoU/LoC for trade credit by the RBI was a knee-jerk reaction. The Committee feels that the RBI got unnerved with the PNB fraud and it hastened the decision to ban LoU/LoC without much thought and consideration," it added.

The statement added that none of the stakeholders representing trade and industry, bank with whom the Committee held deliberations suggested that LoU/LoC was a flawed document.

"Moreover, RBI has itself promoted it after thorough verification more than a decade ago. There is also a unanimity that the ban of LoU/LoC has resulted in rise in the cost of credit by two to two and a half per cent. This will certainly affect the cost competitiveness of country's trade and industry and have a cascading effect on jobs, The loss of jobs is something the country can ill-afford," the Committee said.

The Committee observed that the RBI should have engaged more in consultations with stakeholders on the matter before discontinuing LoU/LoC and suggested restoring it at the earliest with proper safeguards.

"The ban on LoU/LoC takes away the benefit of cheap source of funds availed by the importers. Costly importers shall lead to higher costs of production and erode the competitiveness of the domestically produced goods. The loss of competitiveness takes away the gains that might have accrued to export on account of rupee depreciation," it noted.

Adding to this the Committee felt that discontinuation of LoU/LoC as a response to fraud has set conservatism in the banking sector, and they have become stringent in their operation and credit exposures. "The caution has inadvertently made banks becoming inaccessible to MSME sector," it said.

The Committee concluded that the Government must take necessary measures in response to the fraud and high risks that are negative for the economy in the long run.