International Banking Module a1052

8/9/2019 International Banking Module a1052

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INTERNATIONALINTERNATIONAL

BANKING MODULE ABANKING MODULE A

Prof. B.B. BhattacharyyaProf. B.B. Bhattacharyya

Welingkar Institute of Management Development &Welingkar Institute of Management Development &Research, MumbaiResearch, Mumbai


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08/27/1008/27/10 International BankingInternational Banking 22

What is an exchange rate ?What is an exchange rate ?

Factors determining exchange ratesFactors determining exchange rates

VAL

UE

OF$

QUANTITY OF

D

X + 1xX-1

$1.60

$1.65

$1.75

DEMAND

VA

LUE

OF$

QUANTITY OF

X-1 X X + 1

$1.60

$1.65

SUPPLY

$1.75

S


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What is an exchange rate ?What is an exchange rate ?

Factors determining exchange ratesFactors determining exchange rates

QUANTITY OF

VALUE

OF$

D

S

X-1 X X-1

$1.75

$1.65

$1.60


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Why do Exchange Rates change?Why do Exchange Rates change?

QUANTITY OF

VALUE

OF$

$1.60

$1.65

1.67

D

D1

S

S1

INFLATION

1.70


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Interest rateInterest rate Investment in foreign securities demand and supply of currenciesInvestment in foreign securities demand and supply of currencies

- exchange rates.- exchange rates.

Relative income levelsRelative income levels Government controlsGovernment controls ExpectationsExpectations Strength of the economyStrength of the economy Political factorsPolitical factors Central bank interventionsCentral bank interventions Technical factorsTechnical factors


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Direct quote Foreign currency constant,Direct quote Foreign currency constant,

home currency varies.eg. USD 1 = Rs. 39.50home currency varies.eg. USD 1 = Rs. 39.50

Indirect quote Home currency constant,Indirect quote Home currency constant,

foreign currency varies. Eg. Rs. 100 = USDforeign currency varies. Eg. Rs. 100 = USD

2.53.2.53.

Two-way quotesTwo-way quotes


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Cash /TOM/ SPOT date on which theCash /TOM/ SPOT date on which the

exchange of currencies actually take place.exchange of currencies actually take place.

Forward Transaction Beyond Spot dateForward Transaction Beyond Spot date

Value dateValue date


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DerivativesDerivatives

Forwards, Futures, Options, SwapsForwards, Futures, Options, Swaps

Financial contract whose value is derived fromFinancial contract whose value is derived fromor depends on the price of some underlyingor depends on the price of some underlying

asset. Value of derivative changes when thereasset. Value of derivative changes when there

is a change in the price of the underlyingis a change in the price of the underlying

related asset.related asset.


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Forward to buy a specified asset on a specified dateForward to buy a specified asset on a specified date

at a specified price.at a specified price.

Both right and obligation.Both right and obligation.

Future Contract similar to forward contract.Future Contract similar to forward contract.

A Currency futures contract is an agreement to buy orA Currency futures contract is an agreement to buy or

sell at futures exchange a standard quantity of asell at futures exchange a standard quantity of a

foreign currency at a future date at the price agreed toforeign currency at a future date at the price agreed tobetween the parties to the contractbetween the parties to the contract

Difference Contracts standardized, price negotiated.Difference Contracts standardized, price negotiated.


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Differences contd.Differences contd.

Exchange traded no default risk clearing houseExchange traded no default risk clearing house

becomes the opposite party to both buyer and seller.becomes the opposite party to both buyer and seller.

Most contracts are eventually offset.Only a smallMost contracts are eventually offset.Only a smallportion results in actual delivery.portion results in actual delivery.

Profits/ Losses on forward contracts are realized onlyProfits/ Losses on forward contracts are realized onlyon the delivery day, the change in the value of aon the delivery day, the change in the value of afutures contract results in cash flow every day- hencefutures contract results in cash flow every day- henceless default riskless default risk


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OptionOption

Gives the buyers right but no obligation to buy or sellGives the buyers right but no obligation to buy or sellthe underlying at the agreed rate on or before anthe underlying at the agreed rate on or before anagreed date,agreed date,

PremiumPremium Call OptionCall Option Put OptionPut Option Seller (Writer)Seller (Writer) American style options on or before the expirationAmerican style options on or before the expiration

datedate European Style options only on the expiration dateEuropean Style options only on the expiration date


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SwapsSwaps

Contractual agreements between two parties toContractual agreements between two parties toexchange flows -very common and popular productexchange flows -very common and popular productin derivative markets.in derivative markets.

IRS No exchange of principal but periodicIRS No exchange of principal but periodicexchange of streams of interest payments in terms ofexchange of streams of interest payments in terms ofpredetermined terms on a notional agreed principal.predetermined terms on a notional agreed principal.

Currency Swap two parties agree to exchangeCurrency Swap two parties agree to exchange

specific amounts of two different currencies in thespecific amounts of two different currencies in thebeginning and make periodic payments over time inbeginning and make periodic payments over time inaccordance with predetermined terms.accordance with predetermined terms.


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IRS Plain VanillaIRS Plain Vanilla

FIXED FLOATING

COMPANY A 6% LIBOR + 25 bps

COMPANY B 6.75% LIBOR + 50 bps

DIFFERENTIAL 0.75% 25 bps or 0.25 %


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COMPANY A COMPANY B

FIXED RATEFUNDING

6%

FLOATING RATEFUNDING

LIBOR + 50 bps

LIBOR

6.15%


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PAYS RECIEVES NET

COMPANYA

-6%

-LIBOR

+ 6.15% 6.15% -(6% + LIBOR)

=-(LIBOR-0.15%)

COMPANY

B

-6.15%

-(LIBOR +

50bps)

+LIBOR -6.15% - LIBOR-50BPS + LIBOR

=-(6.15 +0.50)

=-6.65%


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Documentary L/CDocumentary L/C

LC is an arrangement whereby a bank acting at theLC is an arrangement whereby a bank acting at the

request of the customer undertakes to pay a thirdrequest of the customer undertakes to pay a third

party by a given date acording to agreed stipulationsparty by a given date acording to agreed stipulations

and against presentation of documents the counter-and against presentation of documents the counter-value of goods and services suppliedvalue of goods and services supplied

Banks deal only in documents and not in goods.

DIAGRAMATIC EXPLANATION OF VARIOUS STEPS IN THE OPERATION OF A L/C


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IMPORTER

BUYER

APPLICANT

CONTRACT

EXPORTER

SELLER

BENEFICIARYSHIP

GOODS

TAKE

DELIVERY

OF

GOODS

APPLY

L/C

RELEASE

DOCUMENTS

AGAINST

CASH OR

T/R

ISSUING

BANK

NEGOTIATIONOF EXPORT

BILLS

PREPARE& PASS

DOCUMENTS

ADVISE

L/C

MAKE

PAYMENT

SEND

DOCUMENTS

L/C

ADVISING BANK /

CONFIRMING BANK

OR

NEGOTIATING

BANK

1

5

11

2

10

7 4

6

8

3

9

DIAGRAMATIC EXPLANATION OF VARIOUS STEPS IN THE OPERATION OF A L/C


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FactoringFactoring

An arrangement for financing a companysAn arrangement for financing a companysBusiness against the unpaid invoices drawn inBusiness against the unpaid invoices drawn infavour of the customers and in which thefavour of the customers and in which thefactor becomes responsible for all creditfactor becomes responsible for all creditcontrol, sales ledger administration and debtcontrol, sales ledger administration and debtcollection activities.collection activities.

Debt AdministrationDebt Administration

Credit ProtectionCredit Protection Factor FinancingFactor Financing


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ForfaitingForfaiting

A mechanism of financing exports byA mechanism of financing exports by

- discounting export receivables- discounting export receivables

- evidenced by bills of exchange or promissory notes- evidenced by bills of exchange or promissory notes

- without recourse to the seller- without recourse to the seller

- carrying medium to long term maturities- carrying medium to long term maturities- on a fixed rate basis- on a fixed rate basis

- upto 100 percent of the contract value- upto 100 percent of the contract value

Simply put, forfaiting is the non-recourse discounting ofSimply put, forfaiting is the non-recourse discounting ofexport receivables. The exporter surrenders, without recourseexport receivables. The exporter surrenders, without recourseto him, his rights to claim for payment on goods delivered toto him, his rights to claim for payment on goods delivered toan importer, in return for immediate cash payment from aan importer, in return for immediate cash payment from aforfaiter. As a result, an exporter in India can convert a creditforfaiter. As a result, an exporter in India can convert a creditsale in to a cash sale, with no recourse to him / his bankersale in to a cash sale, with no recourse to him / his banker


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All exports of capital goods and other goodsAll exports of capital goods and other goods

made on medium to long term credit aremade on medium to long term credit are

eligible to be financed through forfaitingeligible to be financed through forfaiting


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Flow- ChartFlow- Chart

Exporter finalizes contract with overseas buyer and opens LC through hisExporter finalizes contract with overseas buyer and opens LC through hisbank.bank.

Exporter ships the goods as per schedule agreed with buyerExporter ships the goods as per schedule agreed with buyer Exporter draws series of bills of exchange and sends them along with theExporter draws series of bills of exchange and sends them along with the

shipping documents, to his banker for presentation to importer forshipping documents, to his banker for presentation to importer foracceptance through latters bank. Bank returns avalised and accepted billsacceptance through latters bank. Bank returns avalised and accepted billsof exchange to exporter.of exchange to exporter.

Exporter informs the importers bank about assignment of proceeds ofExporter informs the importers bank about assignment of proceeds oftransaction to the Forfaiting banktransaction to the Forfaiting bank

Exporter endorses avalised Bill of Exchange (BOE) with the words Exporter endorses avalised Bill of Exchange (BOE) with the words Without Recourse and forwards them to the Forfaiting Agency (FA)Without Recourse and forwards them to the Forfaiting Agency (FA)through his bank.through his bank.

The FA effects payment of discounted valueThe FA effects payment of discounted value Exporters bank credit exporterExporters bank credit exporter On maturity of BOE, the FA presents the instruments to the Aval forOn maturity of BOE, the FA presents the instruments to the Aval for

paymentpayment


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SWIFT a private non-profit message transferSWIFT a private non-profit message transfersystem. Provides an exclusivesystem. Provides an exclusivetelecommunication network throughout thetelecommunication network throughout the

world for transmission of financial messagesworld for transmission of financial messagesamong banks and financial institutionsamong banks and financial institutions

CHIPS provides a clearinghouse for theCHIPS provides a clearinghouse for theinterbank settlement of U S dollar paymentsinterbank settlement of U S dollar payments between international banks. A net payment between international banks. A net paymentsettlement systemsettlement system


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FED WIRE Communication network of the FederalFED WIRE Communication network of the Federal

Reserve Bank- An automated computer basedReserve Bank- An automated computer based

message system which follows Gross settlement asmessage system which follows Gross settlement as

compared to Net payment system in CHIPS. Mainlycompared to Net payment system in CHIPS. Mainlyused for Interbank fund transfers, sale and purchase ofused for Interbank fund transfers, sale and purchase of

certain securities among banks, settlement of largecertain securities among banks, settlement of large

value commercial transactions, payments receivedvalue commercial transactions, payments received

from other countries in favour of U.S. Banksfrom other countries in favour of U.S. Banks CHAPS In London, similar to CHIPS in New YorkCHAPS In London, similar to CHIPS in New York


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NRE and FCNR AccountsNRE and FCNR Accounts


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Reserve Bank Of IndiaReserve Bank Of India

It is empowered under the statute to controlIt is empowered under the statute to control

and regulateand regulate foreign exchange reserves and policies related toforeign exchange reserves and policies related to

international trade,international trade, Inflow/outflow of foreign exchange,Inflow/outflow of foreign exchange,

It also has supervisory powers over theIt also has supervisory powers over the

persons authorized to deal in foreignpersons authorized to deal in foreignexchange.exchange.


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An essential function of a central bank is to maintainAn essential function of a central bank is to maintain

the stability of the external value of the domesticthe stability of the external value of the domestic

currency corresponding to the economic strength ofcurrency corresponding to the economic strength of

the country and the monetary and fiscal policies ofthe country and the monetary and fiscal policies ofthe authorities concerned.the authorities concerned.


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The guidelines and directions by RBI, so issued relateThe guidelines and directions by RBI, so issued relate

to foreign exchange transactions relating to exports,to foreign exchange transactions relating to exports,

imports, remittances, travel and tourism, investmentsimports, remittances, travel and tourism, investments

in India, repatriation of funds, non-resident Indianin India, repatriation of funds, non-resident Indiansegment, as also overseas investment by Indiansegment, as also overseas investment by Indian

residents.residents.

One important function of RBI is compiling dataOne important function of RBI is compiling data

related to export-import trade, forex markets, non-related to export-import trade, forex markets, non-resident deposits, as also international assets andresident deposits, as also international assets and

liabilities.liabilities.


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FEMA, 1999FEMA, 1999

All transactions in Foreign exchange are governed byAll transactions in Foreign exchange are governed byFEMA 1999.FEMA 1999.

FEMA replaced FERA,1976.FEMA replaced FERA,1976. Important Provisions of FEMA related to exports,Important Provisions of FEMA related to exports,

imports, exchange rates, currency of payments, NRIs,imports, exchange rates, currency of payments, NRIs,etcetc Provisions for Foreign Travel.Provisions for Foreign Travel. Other Remittances.Other Remittances.

Foreign Currency A/C in IndiaForeign Currency A/C in India Exchange Earners Foreign Currency (EEFC) A/CsExchange Earners Foreign Currency (EEFC) A/Cs Resident Foreign Currency (RFC) AccountsResident Foreign Currency (RFC) Accounts Resident Foreign Currency (DomesticResident Foreign Currency (Domestic


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EXPORT-IMPORT BANK OF INDIAEXPORT-IMPORT BANK OF INDIA

Established by an Act of Parliament in 1981.Established by an Act of Parliament in 1981.

Bank commenced operations on March 1, 1982.Bank commenced operations on March 1, 1982.

Exim Bank's mission is to facilitate globalization ofExim Bank's mission is to facilitate globalization of

Indian business.Indian business.


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Objectives of EXIM BankObjectives of EXIM Bank

To translate national foreign trade policies into concrete actionTo translate national foreign trade policies into concrete actionpoints.points. To provide alternate financing solutions to the Indian exporter,To provide alternate financing solutions to the Indian exporter,

aiding him in his efforts to be internationally competitive.aiding him in his efforts to be internationally competitive. To develop mutually beneficial relationships with the internationalTo develop mutually beneficial relationships with the international

financial communityfinancial community To initiate and participate in debates on issues central to India'sTo initiate and participate in debates on issues central to India's

international tradeinternational trade To forge close working relationships with other export developmentTo forge close working relationships with other export development

and financing agencies, multilateral funding agencies and nationaland financing agencies, multilateral funding agencies and nationaltrade and investment promotion agencies.trade and investment promotion agencies.

To anticipate and absorb new developments in banking, exportTo anticipate and absorb new developments in banking, exportfinancing and information technology.financing and information technology. To be responsive to export problems of Indian exporters and pursueTo be responsive to export problems of Indian exporters and pursue

policy resolutions.policy resolutions.


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EXIM BankEXIM Bank

Financing ProgrammesFinancing Programmes For Exporters and ImportersFor Exporters and Importers For Commercial BanksFor Commercial Banks

For Foreign Governments, Foreign Importers andFor Foreign Governments, Foreign Importers andother Financial Institutions.other Financial Institutions.

Deferred Payment Exports/Project Exports.Deferred Payment Exports/Project Exports.

Assistance for Project Exports/TurnkeyAssistance for Project Exports/TurnkeyProjects/Construction Projects.Projects/Construction Projects. Other Services and ProgrammesOther Services and Programmes

EXIM Bank


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EXIM Bank


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Export Credit Guarantee Corporation ofExport Credit Guarantee Corporation of

India Ltd. (ECGC)India Ltd. (ECGC)

It was set up for the promotion of exports in the year 1957.It was set up for the promotion of exports in the year 1957. To protect the exporters from any financial loss.To protect the exporters from any financial loss. Primary goal of ECGC :

To support & strengthen the export promotion drive in IndiaTo support & strengthen the export promotion drive in India by providing a range of credit risk insurance covers to by providing a range of credit risk insurance covers toexporters against loss in export of goods and service also byexporters against loss in export of goods and service also byoffering guarantee covers to banks and financial institutions tooffering guarantee covers to banks and financial institutions toenable exporters to obtain better facilities from them.enable exporters to obtain better facilities from them.


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Export Credit Guarantee Corporation ofExport Credit Guarantee Corporation of

India Ltd. (ECGC)India Ltd. (ECGC)

ECGC issues various types of guarantees to banks,ECGC issues various types of guarantees to banks,

financing exporters, which protect banks in case offinancing exporters, which protect banks in case of

loss from their advances to exporters.loss from their advances to exporters.

Guarantees to BanksGuarantees to Banks At pre-shipment stageAt pre-shipment stage

At post-shipment stageAt post-shipment stage

ECGC is a backbone of Indian Project Exports.ECGC is a backbone of Indian Project Exports.


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ECGC provides cover to various types of risks,ECGC provides cover to various types of risks,

namely,namely, Risk of not receiving payment from foreignRisk of not receiving payment from foreign

buyers,buyers, Trading on short term credit,Trading on short term credit,

Of not receiving payments in respect of defferedOf not receiving payments in respect of deffered

payment exports, andpayment exports, and In respect of services rendered and constructionIn respect of services rendered and construction

projects undertaken abroad.projects undertaken abroad.


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FEDAIFEDAI

Foreign Exchange Dealer's Association of IndiaForeign Exchange Dealer's Association of India

(FEDAI) was set up in 1958.(FEDAI) was set up in 1958.


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Role of FEDAIRole of FEDAI

It's major activities include -It's major activities include - framing of rules governing the conduct of inter-framing of rules governing the conduct of inter-

bank foreign exchange business among banks vis-bank foreign exchange business among banks vis-

-vis public, and-vis public, and liaison with RBI for reforms and development ofliaison with RBI for reforms and development of

forex market.forex market.


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Role of FEDAIRole of FEDAI

Functions:Functions: Set guidelines and rules for forex business.Set guidelines and rules for forex business. Training the bank PersonnelTraining the bank Personnel Accreditation of Forex BrokersAccreditation of Forex Brokers Advising/ assisting member banks in settling issues/ mattersAdvising/ assisting member banks in settling issues/ matters

in their dealings.in their dealings. Represent members on govt. / RBI/ other bodies.Represent members on govt. / RBI/ other bodies. Monitor developmentsMonitor developments

Identify problems/ difficultiesIdentify problems/ difficulties Ensure proper adherence.Ensure proper adherence.


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International Banking Module a1052