The Telegraph
Since 1st March, 1999
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Bloom & gloom go hand in hand
Panel pill to please India Inc, shock FIIs

Mumbai, Sept. 1: India Inc will be pleased as punch.

The S.S. Tarapore committee on fuller capital account convertibility (FCAC) has recommended that industrial houses be allowed to promote new banks and that limits be significantly raised for investments abroad.

According to the committee’s report, which was released by the Reserve Bank of India (RBI) today, limits for investments abroad should be raised in phases from 200 per cent of the company’s net worth to 400 per cent of net worth. The suggestion, if implemented, will clearly raise the bar for investments (read takeovers) abroad.

It was only last week that the largest cross-border deal done by India’s private sector saw the Tata group acquiring a 30 per cent stake in US-based energy drink maker — Glaceau — for $677 million.

The good news for India Inc is the recommendation that the RBI should evolve policies to allow, on a case-by-case basis, industrial houses to have a stake in Indian banks or promote new ones.

Under the current RBI regulations, corporate houses can only hold up to 10 per cent in a private sector bank.

If this was one positive aspect of the report, there was another suggestion which could give the equity markets a nightmare. The issue of participatory notes (PNs) came back to haunt foreign institutional investors (FIIs). PNs could be on their way out if the committee has its way. The committee has recommended that FIIs should be prohibited from investing fresh money raised through PNs in the stock markets.

The committee said the nature of the beneficial ownership or the identity is not known in the case of PNs unlike in the case of FIIs. It said these PNs are freely transferable and trading of these instruments makes it all the more difficult to know the identity of the owner. It is also not possible to prevent trading in PNs as the entities subscribing to the PNs cannot be restrained from issuing securities on the strength of the PNs held by them.

“The committee is, therefore, of the view that FIIs should be prohibited from investing fresh money raised through PNs. Existing PN-holders may be provided an exit route and phased out completely within one year,” the report said.

PNs are instruments used by foreign funds (but issued by India-based foreign brokerages) who are not registered with the market regulator, but want to take exposure in the country’s capital markets.

For many who have been advocating these instruments, found support in one member of the committee itself. Surjit Bhalla gave a dissent note. He said while the report misses the big picture, the committee, by recommending a ban on P-notes, is recommending a significant move backwards.

FIIs should also be worried over another recommendation. The committee felt that to the extent the capital inflows are exceptionally high and the economy is inundated with excess liquidity arising out of FII inflows, the authorities may consider, in very exceptional circumstances, the imposition of an unremunerated reserve requirement on fresh FII inflows.

Under such a dispensation, FIIs will be required to retain a stipulated percentage of the inflows with the bank and the bank in turn will be required to transfer these balances to the RBI.

The impounded balance will be released to FIIs after a stipulated period.

Task force

The RBI today constituted an internal task force to re-examine the regulations and make recommendations to remove the operational impediments to make liberalisation more meaningful. This follows Tarapore committee’s recommendation that a task force be set up immediately to identify the anomalies in the present regulatory framework. The task force will make recommendations on an ongoing basis and the process will be completed by December 4.

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