During September, the BIS released the preliminary results of its Triennial Central Bank Survey on foreign exchange (FX) and derivative market activity in April 2010. It received a little bit of adulatory press in India, since a cursory reading showed that the share of the Indian rupee in the global FX market had risen (from 0.7 per cent in April 2007) to 0.9 per cent. With global market volumes having risen by 20 per cent to $4 trillion a day, this confirmed our pride that, like India, the Indian rupee is, indeed, asserting itself more and more in the world.
A closer look at the research, however, generates some questions about this glib conclusion. First of all, the share of 0.9 per cent is actually 0.45 per cent, since the sum of all the shares adds up to 200 per cent (since both legs of each transaction are counted). While that is a bit of a deflator, the fact remains that the rupee is still 15th in the list of globally traded currencies, way ahead of the renminbi (0.3 per cent, 24th) and most other emerging-market currencies — the only ones ahead of us are the South Korean won and the Mexican peso.
However, of greater concern is the fact that the 2010 survey increased the list of reported transactions to include trades in USD/INR (as well as Brazilian real, Chinese Renminbi and Korean won). Thus, the 0.45 per cent market share reported in the 2010 survey counted all transactions with the rupee as one leg that were reported by 53 central banks; for comparison, in 2007, the rupee had a market share of 0.35 per cent, but this included only transactions reported by RBI. In other words, the 2007 numbers do not include offshore transactions, like NDF’s, which are included in the 2010 total. Thus, it is possible — indeed, likely — that the total volume of rupee transactions (or certainly its market share) may have increased only marginally (or even fallen) from 2007.
Further evidence of this is found in the data showing the change in the total domestic FX volume. The daily volume reported by RBI in April 2010 was (equivalent of) $27.4 billion. That’s — hold your breath — nearly 30 per cent below the daily volume of $38.4 billion reported by RBI in April 2007! Indeed, volumes had been declining since April 2008 — they had risen dramatically (by 55 per cent) from 2007 to 2008, after which they declined by 17 per cent to 2009, followed by a further sharp fall (of 38 per cent) to this year’s modest total.
So, what does all of this mean? If the global FX market has been growing steadily, how come the Indian rupee market is not (or even shrinking)? This is all the more ironic, given that we have recently released a new symbol for our currency, supposedly indicating the growing impact of the Indian rupee in the world.
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Well, first of all, we need to recognise that FX volumes were elevated in 2007 and 2008 as a result of huge capital flows as well as a highly active structured product and exotic derivative market. Another, and possibly related, factor that could have pumped up volumes in 2007 is the rather surprising fact that there was a huge amount of non-INR (cross currency) transaction activity — only 48 per cent of the reported volume had one INR leg. It would seem, anecdotally, that these transactions have substantially reduced.
And then, of course, there’s the currency futures market, which has been trading close to $10 billion a day for the past several months. Conceivably, although contrary to accepted wisdom, the currency futures market, which does not find count in the BIS survey, could have drawn significant volumes away from the OTC.
My sense, though, is that only a small part of the OTC volumes would have shifted to the futures; retail and institutional speculation, which form the vast bulk of futures volume, was — and continues to be — severely constrained by regulations in the OTC market. Globally, most of the speculation finds its way, directly or indirectly, to the OTC market — global exchange-traded currency derivative volumes are a mere 4-5 per cent of the OTC, whereas in India the ratio is more like 30 per cent.
In particular, our OTC market is much too dependent on domestic dealers, who (in 2007) provided 45 per cent of the volume; the global average was 10 per cent. Globally, non-local dealers and other financial institutions (prime brokers, hedge funds, insurance companies, etc.) provided 76 per cent of market volumes, as compared with 38 per cent in India. While these numbers have doubtless changed by today, the overall picture — of stagnant or even declining OTC volumes despite a growing global market — makes it clear that the deregulation of the Indian FX market, which had been one of our pride and joys, has fallen behind the curve.
Your turn, Dr Subbarao.