The establishment of “international finance centres” – specifically the Gujarat International Finance Tec- City (GIFT) – on par with Singapore and Dubai, received a notable mention in the finance minister’s budget speech on 28 February. The minister also mentioned that regulations for such centres would be issued in March.
While a “high powered expert committee” headed by Percy Mistry submitted a report on making Mumbai an international finance centre in 2007, the idea gathered momentum when the National Institute of Public Finance and Policy (NIPFP) presented a concept paper to the Ministry of Finance this February. The paper recognized that while the 2007 report was aimed at achieving a long-term goal, establishing special economic zones with liberalized financial laws would be an acceptable medium-term solution. The government appears to have seized on this, and has provided substantial support to this proposal, with the stated goal of recapturing Indian rupee-related business from financial centres such as Singapore and Dubai.
The financial sector regulators too have responded to this proposal with previously unseen alacrity. On 2 March, the Reserve Bank of India (RBI) issued the Foreign Exchange Management (International Financial Services Centre) Regulations, 2015, which contemplate the establishment of financial institu-tions in international financial services centres (IFSCs). Such financial institutions would be considered as “persons resident outside India” and only regulations that are specifically made applicable to financial institutions established in IFSCs would apply to them. The Securities and Exchange Board of India (SEBI) and the Insurance Regulatory and Development Authority of India (IRDAI) followed suit by issuing the SEBI (International Financial Services Centres) Guidelines, 2015, and the IRDAI (International Financial Service Centre) Guidelines, 2015.
The RBI further issued a notification on 1 April on establishing banking units in IFSCs (IBUs). Indian banks and foreign banks that are present in India are eligible to establish IBUs. Each eligible applicant can only establish one IBU. Deposits in IBUs will not be covered by deposit insurance and no “lender of last resort” or liquidity support will be available to IBUs. IBUs are prohibited from undertaking cash transactions and are required to follow the instructions of the RBI in relation to anti-money laundering and combating financing of terrorism.
IBUs established by Indian banks will have to comply with prudential norms applicable to branches of Indian banks and will also have to follow the payment delinquency time limits prescribed by the RBI for income recognition, asset classification and provisioning. However, it appears that IBUs established by foreign banks are only required to follow the prudential norms prescribed by the RBI.
The notification prescribes that for “most regulatory purposes” IBUs will be treated in the same manner as branches of foreign banks. While no further elaboration has been provided, it is expected that when the RBI reissues instructions to banks in the form of annual master circulars, it will also issue separate instructions applicable to IBUs.
An IBU will need to maintain a minimum capital of US$20 million. IBUs can engage in all the activities permitted under section 6(1) of India’s Banking Regulation Act, 1949, subject to variations such as: (a) IBUs can transact with non-resident entities other than individuals, retail customers and high net worth individuals; (b) IBUs can only transact in currencies other than the Indian rupee; (c) IBUs cannot open current or savings accounts; and (d) an IBU can deal in all kinds of derivative and structured products with the prior approval of its board of directors and as long as the IBU has “adequate knowledge, understanding, and risk management capability for handling such products”.
The flexibility in regard to derivative and structured products is particularly important as the restrictions on products that banks in India can provide is often cited as a reason for business in Indian rupees being conducted in locations such as Singapore and Dubai. The notification also specifies that the loans and advances provided by IBUs will not be reckoned to determine the priority sector obligations of the parent bank (for IBUs established by Indian banks) or the foreign bank’s branches in India (for IBUs established by foreign banks with a presence in India).
IFSCs are a welcome development and as per news reports the National Stock Exchange and Mumbai’s BSE have already applied to establish bourses in GIFT. The finance minister has committed to introduce tax concessions and a “non-adversarial tax regime”. The NIPFP’s concept paper also contemplates more efficient mechanisms for dispute resolution and contract enforcement.
While the short-term goal for establishing IFSCs is to recapture business denominated in Indian rupees that is now being conducted in Singapore and Dubai, the long-term objectives appear to be deepening Indian financial markets and creating the right environment for wide-ranging structural reforms in the financial sector in the rest of India.
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