Hedging must for importers who seek foreign letter of credit

NEW DELHI: The finance ministry has asked state-run banks to make hedging compulsory for all importers who seek foreign letter of credit (FLC) for their purchases.

The move is expected to increase the cost of imports as borrowers will have to shell out extra payment to hedge their forex exposures. Government says this is to check excessive exposure of some banks to importers, but bankers say the real motive could be to dampen imports.

A finance ministry official told ET that the government nominees on the boards of state-run banks have been asked to take up the issue with bank officials.

“Earlier this year we had apprised the Indian Banking Association about this issue. Banks individually are also expected to address the issue,” the official said, requesting anonymity.

A foreign letter of credit (FLC) is a short term trade credit of up to 180 days. It is issued by a bank on behalf of an importer or buyer and guarantees an exporter payment for goods or services, provided the terms of the letter of credit have been met. Banks charge a fee for providing such letter of comfort.

In response to an RTI query, India’s largest bank SBI had disclosed that that outstanding foreign letters of credit as of June 30, 2013 added up to $18.5 billion. Bankers, however, say that the government's aim is to discourage imports and want to jack up the interest rate for importers. “Small importers, who would not have been hedging before will have to spend more,” said a senior official with a state run bank.

India notched up a trade deficit (exports less imports) of $ 191.6 billion in 2012-13 as exports fell 1.8% while imports grew 0.44%, burdening the country with the highest ever current account deficit at 4.8% of GDP. The government has announced a series of measures to curb gold imports and has also repeatedly talked of steps to cut non-essential imports.

Earlier this month finance minister P Chidambaram had said that the country is going through a period of stress and some hard decisions need to be taken.

“Many of these measures are being taken. Some measures to curb import of inessential items will also be announced. All these measures taken together will have beneficial impact,” he had said.