Covid-19 relief: RBI move to allow banks in NDF may stem volatility

As part of the regulatory package to deal with the fallout from the Covid-19 pandemic on Indian financial markets, the Reserve Bank of India (RBI) announced today that “the time has come to end market segmentation onshore and offshore ”and as a result, it was decided to allow Indian banks that operate banking units or IBUs of the International Financial Services Center (IFSC) to participate in the market for non-deliverable futures (NDF) from June 1, 2020 via their branches in India, foreign branches or via their IBUs.

The provocation of this decision is undoubtedly the significant recent capital outflows from the markets which have caused enormous volatility in the foreign exchange markets – offshore NDF and land rupee. Volatility, widening spreads and declining liquidity were more pronounced on the NDF markets and spread to the local forex market. If Indian banks had been allowed to operate in offshore markets, it might have been possible to stem the volatility of the NDF market and the spillover effect – this could also have facilitated more effective intervention by RBIs.

The RBI (August 2019) task force that studied the NDF markets discussed at length the suggestion that it had been made to allow Indian banks to trade on the offshore market. The arguments put forward were: the removal of segmentation between the onshore and offshore markets would improve liquidity and price discovery; there would be better pricing for customers thanks to increased transparency in the offshore market; local authorities would have better access to information and the rules of the game would be fair for foreign banks which trade freely on the NDF markets. Although the merits of the arguments were appreciated, the downside risk was that the participation of Indian banks in NDF will improve the liquidity of the NDF market and jeopardize the development of the onshore market. Furthermore, the complete abolition of the segmentation between the offshore and onshore markets would militate against the capital control measures in place; therefore, he felt that measures to bring the NDF market to shore should precede allowing Indian banks to participate in the NDF market.

Therefore, while it may be appropriate to remove some segmentation between the offshore and onshore markets to allow Indian banks to participate effectively in NDF markets to stem volatility there and the ripple effects on the markets onshore, it is necessary to have separate limits on the position that banks can take on the NDF market within the limit of global position. This is comparable to the regulations under which foreign banks operating on local markets are not allowed to take offsetting positions (in their branches abroad) on NDF markets.


Former RBI deputy governor Usha Thorat chaired the rupee offshore markets task force, which issued its recommendations in August 2019.

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