The Hindu Business Line : RBI policy: Move to allow producers hedge risks welcome

The RBI's decision to authorise specified dealer-banks (category-I) to permit domestic producers and users of certain base metals (aluminium, copper, lead, nickel and zinc) to hedge their price risk in international commodity exchanges, based on their underlying economic exposure, has come not a day too soon.

Hitherto, domestic producers and consumers were not allowed to do so.

With the gradual integration of the domestic market with the global market, domestic prices largely track international trends. Thus, domestic metals market was impacted by volatility in global market.

Reports from a cross-section of the industry suggest that domestic producers and industrial users were rather reluctant to hedge their positions in the domestic exchanges not only because of inadequate liquidity but also because of some unstated reservations.

This is one of the major reasons why genuine hedger participation in domestic exchanges has been rather low.

It may be interesting to survey and document the real reasons for extremely limited hedger participation so far in the domestic exchanges as far as metals and energy products are concerned.

Indeed, by its own admission in the Credit Policy, the RBI's decision is based on representations from genuine stakeholders in the domestic market. There is perhaps a lesson for the domestic exchanges. It is necessary for them to introspect and examine why they failed to attract domestic hedgers.

While permitting Indian entities to hedge in international exchanges is welcome, the demand for allowing foreign entities to participate in the Indian derivatives market should be approached with caution.

Even very recently, the chairman of Forward Markets Commission reportedly stated that banks, mutual funds and foreign institutional investors should be allowed to trade in the domestic derivatives market.

This recommendation ignores ground realities and is fraught with risks.

Without strengthening the physical market, it is unwise to let speculators have a free run or allow too much money to chase commodities. Developments in the agricultural sector over the last one year are testimony to what rampant speculation without corresponding efforts to boost production and marketing can do to prices.

The RBI's intention is to allow genuine hedgers — those producers and industrial users with genuine underlying exposure — to hedge their price risk in overseas exchanges.

The policymakers are not yet ready to permit Indian speculators to do so, and rightly so. Same applies to overseas speculators.

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