MUMBAI, February 10: Chairman of the capital account convertibility committee and former deputy governor of the Reserve Bank of India SS Tarapore said the net foreign exchange assets-currency (NFAC) ratio of India -- which at present is pegged at 72 per cent -- should not be allowed to fall below 70 per cent.Speaking on the impact on currency convertibility in India in the wake of the recent Asian crisis at an interactive session organised by the Indian Chamber of Commerce at Calcutta, Tarapore said that a high NFAC ratio was perhaps the most important indicator of prudent management as a high ratio ensures against any problems emanating on the external front.
"It would be highly desirable to restore the statutory ratio of 40 per cent which was abrogated in the '50s. This is necessary, as in the present situation, a reckless policy which lets this ratio fall below 40 per cent would be a standing invitation for portfolio investment to exodus," said the chief architect of capital account convertibility inthe country.
"It is clear that the problem in India is not one of a large depreciation but an appreciation of the trade weighted real effective exchange rate (REER) of the Indian rupee", he said. The depreciation in nominal terms vis-a-vis the dollar since July 1997 has been 15 per cent for Taiwan and Singapore, 35 per cent for the Philippines, 37 per cent for Malaysia, 47 per cent for Thailand, 48 per cent for Korea and 74 per cent for Indonesia. In contrast, depreciation of the rupee was less than 9 per cent.
"The acid test of a successful intervention when the rupee is under pressure is a cessation of the haemorrage of reserves and a claw-back within a reasonable period of time," said Tarapore.
He said a basic principle of intervention should be a spot-forward swap which could be of the buy-sell or the sell-buy variety depending on the type of action sought to be achieved. This could be the surest way of not resisting a fundamental change in the exchange rate.
Tarapore said it was legitimate on thepart of the authorities to use strong monetary policy action through interest rates and liquidity control to ensure an abatement of the exchange market pressures.
"But such intervention should be undertaken with great finesse. It should not result in real interest rates rising to unsustainable levels or a prolonged squeeze in liquidity", he said.
"The distinct de-emphasis of the REER by the authorities in the recent period and the attempts to shroud it in theoretical jargon pointing to the inadequacies of the trade weighted REER does not mean that the underlyiing problem of the exchange rate would go away", said Tarapore. He said the RBI could prepare a five-country trade weighted REER index along with the release of the weekly reserve figures which is, "a good proxy of the more elaborate exercise". The central bank currently publishes a 36-country trade weighted REER index with a lag of four-five months. Tarapore said the five-country index would immediately throw up that with the base as March 1993, theREER at the present time would possible show an appreciation of 7-8 per cent.
"The authorities would do well to articulate their view point if they felt that the March 1993 base was now far too distant and another alternative viable and credible base were to be determined", he said.
Copyright © 1998 Indian Express Newspapers (Bombay) Ltd.
