RBI Introduces New Rules for INR Derivative Contracts, Makes Hedging Mandatory for Non-Residents

The Reserve Bank of India (RBI) has introduced changes to the rules governing foreign exchange derivative contracts involving the Indian rupee (INR). Under the revised directions, authorised dealers will be allowed to offer non-deliverable derivative contracts (NDDCs) involving the Indian rupee to non-resident users only for hedging purposes. Earlier, certain authorised dealers were permitted to offer these contracts to non-residents without any restriction on the purpose for which they were used.

The changes have been introduced under the RBI’s Master Direction on Risk Management and Inter-Bank Dealings, dated July 5, 2016, as amended from time to time. The revised rules apply to Authorised Dealer Category-I banks operating an International Financial Services Centre (IFSC) Banking Unit and Standalone Primary Dealers authorised as Authorised Dealer Category-III, which were previously permitted to offer INR-related NDDCs to non-residents without restrictions on their purpose.

The RBI has also introduced a requirement for authorised dealers to maintain a Foreign Exchange Risk Reserve (FERR) for foreign exchange derivative contracts involving the Indian rupee. This reserve will be required for contracts undertaken to hedge currency risks arising from the authorised dealer’s own assets and liabilities.

The Foreign Exchange Risk Reserve will apply to all foreign exchange derivative contracts involving the Indian rupee in which the authorised dealer purchases foreign currency against the rupee. The reserve amount will be equal to 20 per cent of the rupee equivalent of the notional amount of each derivative contract.

Authorised dealers will have to deposit and maintain this reserve in cash in India with the RBI on a daily basis. The amount must remain with the RBI until the relevant derivative contract is terminated.

The RBI has clarified that these directions will apply to foreign exchange derivative contracts undertaken after the issuance of the directions. Contracts entered into before the issuance of the directions are not covered by this applicability provision.

The directions have been issued under Sections 10(4) and 11(1) of the Foreign Exchange Management Act (FEMA), 1999, and Section 45W of the Reserve Bank of India Act, 1934. The RBI has also clarified that the directions do not remove the requirement to obtain any other permissions or approvals that may be necessary under applicable laws.

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