It might be early days yet to assess the full impact of the Securities and Exchange Board of India’s decision to bar participatory notes based on derivates and limit the PNs in the spot market. Contrary to grave apprehensions expressed in several quarters, the stock markets seem to have not only taken the new regulations in their stride, but if the rising stock indices are any guide, actually welcomed them. Foreign institutional investors and portfolio managers who now face some restraints were never shrill in their opposition to the new norms in the first place. They are reportedly complying, facilitated by the fast-track scheme of registration SEBI has introduced for certain categories. Barring a small number, the overseas investors who have been investing in India in a roundabout way through the PNs might invest directly. Removing the cloak of anonymity of such investors has been one of the two main objectives of the recent SEBI moves, the other being the much broader — and admittedly more difficult — one of moderating capital inflows. Nobody is of course suggesting that the implementation of the first will automatically reduce the quantum of flows. Clearly genuine investors, whom the Indian regulators are looking for, should have no difficulty in complying with the disclosure norms. Given that SEBI is simultaneously seeking to introduce a number of sophisticated instruments in the capital market, it is likely that over the medium-term there would be more, not less, capital inflows.

Hence for policy makers, particularly the Reserve Bank of India which will be coming up with its review of the monetary policy on Tuesday, the challenges posed by large capital inflows will remain. Over the past three months, the RBI hiked the CRR, tightened liquidity, and liberalised the capital account further. As a result, Indian companies in joint ventures abroad can enhance their stakes and mutual funds can invest substantially more abroad. If, despite all these, the rupee has been appreciating, it is because of the abundance of dollar inflows. What stance the RBI will take with regard to the interest rate and the exchange rate depends to a large extent on its reading of capital flows. The macroeconomy continues to be growing at a robust pace. Inflation has come down sharply, due to a combination of monetary and fiscal measures aided by the base effect. There are of course some worrying factors such as the rising global oil prices and the continuing insulation of Indian consumers. The economic slowdown in the United States is another. If as expected, there is another round of interest rate cut in the U.S. soon, capital flows into India will increase.