• The receipt and payment of foreign currency

funds is facilitated by maintaining accounts

with banks abroad.

A) NOSTRO account:
In Latin ‘Nostro’ means ‘ours’. Nostro account
means our account with you. It is an account
maintained by an Indian bank with a bank
overseas and it is maintained in foreign
currency.
B) VOSTRO account:
In Latin ‘Vostro’ means ‘yours’. The
correspondent banks maintain accounts in
India to facilitate international transactions at
their end. Vostro account means your account
with us. This account is maintained in rupees
and is maintained in the books of banks in
India.
A) Overbought position:
If the amount of foreign exchange bought by a
bank is more than the amount sold, the bank
is said to have “overbought” or “ long
position”.
B) Oversold position:
If the amount of foreign exchange sold by a bank
is more than the amount of foreign currency
bought, the bank is said to be in “oversold”
or “short position”.
• Speculation: Speculation involves deliberately
creating positions in order to profit from
exchange rates.
• Hedging: In an environment of volatile
exchange rates, players in the foreign
exchange market wish to reduce or completely
eliminate currency risk and hedge their
positions with derivative tools available in the
forex market, namely, futures, options, swaps,
etc.
• Arbitrage: Arbitrage is an opportunity by
which one can make risk free profit by
undertaking offsetting transactions. Arbitrage
can happen in exchange rates, even in interest
rates, like borrow in one centre and lend it in
another at a higher rate.
 Regulating and controlling the foreign
exchange market.
• The inter-bank market deals are mostly done
with computerized dealing systems such as
Reuters, Bridge and Bloomberg.
• Computerized dealing systems allow a dealer
to carry on multiple conversations
simultaneously, and provide a visual
reproduction of the audio exchange between
the dealers. This minimizes the probability of
mistakes and discrepancies.
• As we know, there is no unified or centrally cleared
market for the majority of FX trades, and there is
very little cross-border regulation on those trades.
Due to the over-the-counter (OTC) nature of
currency markets, there are rather a number of
interconnected marketplaces, where different
currencies instruments are traded.
• The main trading center London, but New York,
Tokyo, Hong Kong and Singapore are all important
centers as well. Banks throughout the world
participate. Currency trading happens
continuously throughout the day.
• The dealers are out of the picture once the deal is
agreed upon and entered in the record systems.
Subsequent processing of the transaction and
settlement is handled by the back office staff. This
enables dealers to do deals very rapidly.
• Communication pertaining to international
financial transactions are handled mainly by a
large network called “ Society for Worldwide
Inter-bank Financial Telecommunication” (SWIFT).
This is a non-profit Belgian cooperative with main
and regional centers around the world connected
by data transmission lines.
Methods of Exchange Control in India:-
• Exchange control introduced in India during
the Second World War.
• FERA 1948
• 1966 Rupee devaluation 57.5%- due to high
inflation along with fixed exchange rates
• 1971 Bretton Woods System collapsed, Oil
crisis
• 1973 Oil Crisis
• FERA 1973 amendment
• FERA 1973 gave more powers of enforcement
and control on foreign exchange transactions
was made tighter.
• 1991 Rupee Devaluation 22%- forex reserves
dried up, Gulf war- rise in oil prices
• In March 1992 LERMS was introduced- system
of dual exchange rates.
• In March 1993 Unified the exchange rate and
allowed rupee to float for the first time
• FEMA 1999- FERA was replaced by FEMA
• FEMA took into account the convertibility of
the rupee for all current account transactions.
• Some other highlights of the new FEMA are:
1. The Act gives full freedom to a person
resident in India who was earlier resident
outside India, to hold or own or transfer any
foreign securities or immovable property
situated outside and acquired when he/she
was resident there.
2. Similar freedom is also given to a resident who
inherits such security or immovable property
from a person resident outside India.
3. The Exchange Earners’ Foreign Currency (EEFC)
account holders and Resident’ Foreign Currency
(RFE) account holders are permitted to freely use
the funds held in EEFC/RFC accounts for payment
of all permissible current account transactions.
4. While exchange controls on some current a/c
transactions like transactions related to betting,
lotteries and all capital a/c transactions were still
in place that time.
5. In case of the foreign exchange transactions,
RBI permitted transactions like third currency
forwards and forward-forward swaps.
6. Freedom to cancel and rebook forward
contract has been partially withdrawn.
7. The limits on balances that can be held in
Exchange Earners’ Foreign Currency accounts
are lowered.
RBI intervenes whenever there is weakness or
panic in the market.
Tarapore committee on Capital Account
Convertibility, has made several
recommendations:
• Removal of tax benefits to NRIs.
• Greater autonomy to RBI.
• Complete check on fiscal deficit.
• Reduction of government stake in banks
from 51 per cent to 33 per cent.
• Allowing industrial houses a stake in
existing banks or allowing them to open a new
banks.
• Allowing enhanced presence of foreign banks.
• Non-resident corporates should be allowed to
invest in Indian markets.
• Raising the ceiling on External Commercial
Borrowing (ECB).
• Banning Participatory Notes (PNs) and phasing
out the existing PNs within one year.
• Building adequate reserve and limiting the
current account deficit to under 3% of GDP.
• All banks should be brought under companies
Act.
 Pre-conditions and actual status

Items 1997 2000 2000 March March

Actual Targeted Actual 2006 2016
Actual Actual
1. Gross 4.1 3.5 5.4 4.1 6.9
Fiscal around
Deficit to 2017-18
GDP 3.5
2. 4.6 3-5 4.5 5.01 3.15
Inflation 2017-18
(WPI ) Avg- 3.6
to 3.8
3. NPAs 15.7 5.0 12.7 5.25 8.5
of the around
Banking 2017-18
Sector 10.6
around
Second Report of the Committee:
• This time, unlike the first report, the
committee makes certain suggestions, which
are eye-opener. The panel suggests that all
non-resident should be treated on equal
footing and special treatment given to non-
resident Indians should be done away with.
• Proposed investment relaxation in the
following areas by the last phase according to
Committee report:
1. ECB
2. Resident Individuals’ overseas investment
3. MFs overseas investment
4. FII investment
5. FIIs’ debt investments, like in govt. securities
6. JVs/Wholly-owned subsidiary abroad
investment.
 Divergent Opinions about CAC
Proponents-
• India has been growing at 9% of GDP for three
consecutive years.
• India is already attracting FDI around $ 6 billion
every year.
• India’s Forex reserves have touched about
$16,095 (as on August 17, 2012) billion, which
is much higher than the recommended level of
$22 billion (Tarapore-I).
Opponents-
• China has maintained a growth rate of 8-10%
over a more than a decade without going for
CAC. A Deputy Governor of the people’s Bank
of China ruled out CAC in that country.
• China gets more than 25 per cent of total FDI
flows to developing countries and around 10
per cent of total global FDI flows. India gets
only 0.8% of total global FDI flows and less
than 3% of total FDI flows to developing
countries.
• India’s debt to GDP ratio is more than 90 per cent.
• Opportunities come with risk. Quality of India’s ratings
will matter considerably more when CAC is introduced.
As India does not yet qualify for an investment grade
rating, it has wide implications.
• CAC does not serve the purpose of the real sectors to
the Indian economy like eradication of poverty,
improving employment rates, etc.
• The first road map towards convertibility in 1997 was
conveniently forgotten with the onset of Asian Crisis.
However, in 2006, we were presented with a second
road map. But that also could take us ahead because
of 2008 financial crisis.
• Why dollar?
• The single most astonishing fact about foreign exchange is
not the high volume of transactions, as incredible as that
growth has been. Nor is it the volatility of currency rates,
as wild as the markets are these days. Instead, it's the
extent to which the market remains dollar-centric.
• Example: Consider this: When a South Korean wine
wholesaler wants to import Chilean cabernet, the Korean
importer buys U.S. dollars, not pesos, with which to pay
the Chilean exporter. Indeed, the dollar is virtually the
exclusive vehicle for foreign-exchange transactions
between Chile and Korea, despite the fact that less than
20% of the merchandise trade of both countries is with
the U.S.
• Chile and Korea are hardly an anomaly: Fully 85% of
foreign-exchange transactions world-wide are
trades of other currencies for dollars. What's more,
what is true of foreign-exchange transactions is true
of other international business. The Organization of
Petroleum Exporting Countries sets the price of oil
in dollars. The dollar is the currency of
denomination of half of all international debt
securities. More than 60% of the foreign reserves of
central banks and governments are in dollars.
• The greenback, in other words, is not just America's
currency. It's the world's.
• why the dollar became so dominant in the first
place?
1. First, its allure reflects the singular depth of
markets in dollar-denominated debt
securities. The sheer scale of those markets
allows dealers to offer low bid-ask spreads.
The availability of derivative instruments with
which to hedge dollar exchange-rate risk is
unsurpassed. This makes the dollar the most
convenient currency in which to do business
for corporations, central banks and
governments alike.
2. Second, there is the fact that the dollar is the
world's safe haven. In crises, investors
instinctively flock to it, as they did following
the 2008 failure of Lehman Brothers. This
tendency reflects the exceptional liquidity of
markets in dollar instruments, liquidity being
the most precious of all commodities in a
crisis. It is a product of the fact that U.S.
Treasury securities, the single most important
asset bought and sold by international
investors, have long had a reputation for
stability.
[Link], the dollar benefits from a dearth of
alternatives. Other countries that have long
enjoyed a reputation for stability, such as
Switzerland, or that have recently acquired
one, like Australia, are too small for their
currencies to account for more than a tiny
fraction of international financial transactions.
• Regarding US banks making profit out of the
foreign exchange transactions-
• Firstly, the bid-ask spread provides banks with
their incomes from dealing in foreign exchange.
• Secondly, spreads may seem small but can have
a substantial effect on yields of huge
investments.
• So large number of foreign exchange
transactions through US banks are obviously
going to get profits and only profits for US banks.