Let Sebi do it

A tussle involving turf may be developing between the Reserve Bank of India (RBI) and the Securities and Exchange Board of India (Sebi), about the currency futures market. By definition, a currency futures is an exchange-traded product. An RBI-regulated currency futures market, then, involves the RBI building a separate pool of exchanges. There are four arguments against such a move. The first issue is that of economies of scope and economies of scale. If India is to achieve an international financial centre, then this will require charges for trading on exchanges which are competitive against the top five exchanges of the world. The National Stock Exchange and Bombay Stock Exchange are the third- and fifth-biggest exchanges in the world, by number of transactions. They have the economies of scale through which additional transactions for currency futures trading could be woven into the existing IT facilities at low cost. One or more brand new exchanges would involve much higher cost.

The purpose of creating a currency futures market lies in the fact that the existing currency forward market is opaque, is centred on 20 banks in South Bombay, and has high charges. Currency risk is spread all over the country, including many firms and individuals who have no apparent trade exposure. If the currency futures market is to make a dent in this currency risk that is spread all across the country, it must harness the 75,000 trading screens of the NSE and BSE. These screens, coupled with Internet trading, constitute the most effective distribution capability through which transparent market access at a low cost reaches every corner of the country. The RBI vision, in contrast, involves a market which is a club, with entry controlled through 100 banks, with capital controls, with non-transparency, and high profits for banks.

The international experience shows that currency futures trading is squarely the job of the securities regulator, which deals with all derivatives markets: equities, commodities, interest rates, currencies, etc. In mature market economies, central banks have no role in policy, regulation or supervision of currency futures markets. India needs to be moving towards focusing the RBI on inflation and interest rates. Adding currency futures to the responsibilities of the RBI, which is already burdened with conflicting functions, would be moving in the wrong direction.

Perhaps most important is the issue of credibility and track record. From the scam of 1991 onwards, the RBI has tried to set up a debt market and a currency market. In both cases, the conditions were highly supportive. The debt market should have grown dramatically on the strength of sustained large fiscal deficits. The currency market should have grown dramatically on the strength of India's remarkable globalisation. However, in both areas, a liquid and efficient market has been elusive. This suggests that there are some gaps between the RBI's approach and skills, when compared with the requirements of building liquid financial markets. Over the same period, policy decisions at Sebi have succeeded in creating India's most important financial market, the equity market, which is now a highly efficient and liquid market. Pragmatism demands that more work should be placed on the shoulders of those who have achieved success on related work in the past. The Sebi approach has delivered results on the equity market, while the RBI approach has failed to deliver results on the debt market and on the currency market. Hence, the task of regulating and supervising the currency futures market should be placed with Sebi.