The Reserve Bank of India (RBI), on Wednesday, tightened the norms for capital and provisioning requirements of banks, which have exposure to corporates with unhedged foreign currency exposures. This would be implemented from April 1, 2014

While the central bank has decided to introduce incremental provisioning and capital requirements for bank exposures to entities with unhedged foreign currency exposures, it has also suggested a methodology to be followed by banks while calculating incremental provisioning and capital requirements.

“We have issued various guidelines advising banks to closely monitor the unhedged foreign currency exposures of their borrowing clients and also factor this risk into the pricing. However, the extent of unhedged foreign currency exposures of the entities continues to be significant and this can increase the probability of default in times of high currency volatility,” said RBI in a notification to all banks The RBI said that the loss to the entity in case of movement in dollar-rupee exchange rate may be calculated using the annualised volatilities.

For this purpose, “largest annual volatility seen in the dollar-rupee rates during the last ten years may be taken as the movement of the dollar-rupee rate in the adverse direction.”

To ascertain the amount of unhedged foreign currency exposure (UFCE), the RBI said that foreign currency exposure (FCE) referred to the gross sum of all items on the balance-sheet that had impact on profit and loss account due to movement in foreign exchange rates. “This may be computed by following the provisions of relevant accounting standard. Items maturing or having cash flows over the period of next five years only may be considered.”

The RBI said that unhedged foreign currency exposures of the entities were an area of concern not only for individual entity but also to the entire financial system.

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