Govt tightens ECB norms

The government today stepped in to check foreign currency inflows by putting stiff restrictions on overseas borrowings, a measure sought by the Reserve Bank of India (RBI) to enable it to check the rupee's sharp appreciation.

External commercial borrowings (ECBs) above $20 million have now been allowed only for foreign currency expenditure for permissible end-uses and are required to be parked abroad.

Overseas borrowings to meet rupee expenditure will henceforth be possible only after obtaining prior RBI approval and companies will need to keep the funds overseas till they are actually required for making payments.

The curbs will curtail foreign currency inflows, already expected to be impacted by the turmoil in the global credit market following heavy losses suffered by lenders and investors in the US subprime mortgage (or high-risk home loan) market.

The increase in interest rates on bonds and loans had eliminated borrowings by greenfield infrastructure projects and mid-sized corporations, which will now find it difficult to raise over five-year funds within the Libor plus the 250 basis point-cap stipulated by the RBI.

The finance ministry statement said the revised ECB guidelines would not apply to borrowers who already had loan agreements and had obtained loan registration numbers from RBI. The annual per company ECB cap of $500 million and end-use norms have been unchanged.

The move comes a week after the RBI said in its first quarter monetary policy review that its inflation target of 5 per cent hinged on the government undertaking a "more active" management of foreign currency inflows.

The RBI had raised the cash reserve ratio (CRR, or the proportion of deposits banks have to keep with the central bank) by half a percentage point to 7 per cent to suck out Rs 16,000 crore of liquidity from the banking system, which is still flush with about Rs 50,000 crore of excess cash.

The RBI's purchase of $25.29 billion in the foreign exchange market in December 2006-May 2007 to check the rise of the rupee had led to infusion of Rs 1,09,899 crore of liquidity into the system.

In May and June, the RBI's intervention in the market was more severe, having bought $4.42 billion in May and an estimated $5 billion to $6 billion in June.

Despite these interventions, the rupee has appreciated by 8.2 per cent against the dollar at the end of July 2007 over March 31, 2007.

In the first half of 2007, companies borrowed $19.13 billion overseas against $13.58 billion in the whole of 2006.

"Market sentiments will dampen. The rupee is expected to open lower in the range of 40.60 to 40.70 to the dollar since ECBs have been a major source of inflows. This move could also push up domestic credit pricing of corporates," said Abheek Barua, chief economist, HDFC Bank.

---

BRAKE DANCE
Changes to ECB norms so far this financial year

August 7, 2007

ECBs of over $20 million per borrowing company permitted only for foreign currency expenditure, funds to be parked overseas

ECB up to $20 million per borrowing company permitted for foreign currency expenditure under automatic route, funds to be parked overseas and not remitted to India

ECB up to $20 million for rupee expenditure for permissible end-uses will require prior approval of the Reserve Bank

Above conditions will not apply to borrowers who already have loan agreements and obtained loan registration numbers from RBI

May 18, 2007

Exemption withdrawn of integrated township development as a permissible end-use of ECB

The all-in-cost ceilings reduced to 150 basis points over six-month London Inter Bank Offered Rate (Libor) from 200 basis points for ECBs of 3-5 years

For more than five-year tenor ECB, the cost ceilings was reduced to 250 basis points over Libor from 350 basis points

April 30, 2007

Foreign investment coming as fully convertible preference shares would be treated as part of share capital

Other types of preference shares like non-convertible and optionally convertible would be treated as debt and are required to conform to ECB guidelines and ECB caps