Foreign Exchange Market

Only available on StudyMode
  • Download(s) : 120
  • Published : February 12, 2012
Open Document
Text Preview


6.1 Globally, operations in the foreign exchange market started in a major way after the breakdown of the Bretton Woods system in 1971, which also marked the beginning of floating exchange rate regimes in several countries. Over the years, the foreign exchange market has emerged as the largest market in the world. The decade of the 1990s witnessed a perceptible policy shift in many emerging markets towards reorientation of their financial markets in terms of new products and instruments, development of institutional and mar ket infrastr ucture and realignment of regulatory structure consistent with the liberalised operational framework. The changing contours were mirrored in a rapid expansion of foreign exchange market in terms of participants, transaction volumes, decline in transaction costs and more efficient mechanisms of risk transfer. 6.2 The origin of the foreign exchange market in India could be traced to the year 1978 when banks in India were permitted to undertake intra-day trade in foreign exchange. However, it was in the 1990s that the Indian foreign exchange market witnessed far reaching changes along with the shifts in the currency regime in India. The exchange rate of the rupee, that was pegged earlier was floated partially in March 1992 and fully in March 1993 following the recommendations of the Report of the High Level Committee on Balance of Payments (Chairman: Dr.C. Rangarajan). The unification of the exchange rate was instrumental in developing a market-determined exchange rate of the rupee and an important step in the progress towards current account convertibility, which was achieved in August 1994. 6.3 A further impetus to the development of the foreign exchange market in India was provided with the setting up of an Exper t Group on Foreign Exchange Markets in India (Chairman: Shri O.P. Sodhani), which submitted its report in June 1995. The Group made several recommendations for deepening and widening of the Indian foreign exchange market. Consequently, beginning from January 1996, wide-ranging reforms have been undertaken in the Indian foreign exchange market. After almost a decade, an Internal Technical Group on the Foreign Exchange Mar ket (2005) was constituted to undertake a comprehensive review of

the measures initiated by the Reserve Bank and identify areas for further liberalisation or relaxation of restrictions in a medium-term framework. 6.4 The momentous developments over the past few years are reflected in the enhanced risk-bearing capacity of banks along with rising foreign exchange trading volumes and finer margins. The foreign exchange market has acquired depth (Reddy, 2005). The conditions in the foreign exchange market have also generally remained orderly (Reddy, 2006c). While it is not possible for any country to remain completely unaffected by developments in international markets, India was able to keep the spillover effect of the Asian crisis to a minimum through constant monitoring and timely action, including recourse to strong monetary measures, when necessary, to prevent emergence of selffulfilling speculative activities (Mohan, 2006a). 6.5 Against the above background, this chapter attempts to analyse the role of the central bank in developing the foreign exchange market. Section I provides a brief review of different exchange rate regimes being followed in emerging mar ket economies (EMEs). Section II traces the evolution of India’s foreign exchange market in line with the shifts in India’s exchange rate policies in the postindependence period from the pegged to the market determined regime. Various regulatory and policy initiatives taken by the Reser ve Bank and the Government of India for developing the foreign exchange market in the market determined set up have also been highlighted. Section III presents a detailed overview of the current foreign exchange market structure in India. It also analyses the available market infrastructure...
tracking img