International Banking

Module 4
 Contents

• Exchange rates and Forex Business

• Correspondent banking and NRI
Accounts
• Letters of Credit
• Foreign currency Loans
• Facilities for Exporters and Importers
• Role of ECGC, RBI and EXIM Bank
 Introduction- IIBF pg 30

• Banking services catering to cross-border

transactions is called International Banking.
• Foreign exchange market is the place
where each country/people can pay for
their requirements and receive their
payments in their own home country.
• Banks are active members of the foreign
exchange market-International banking
services
 Exchange rates and forex business

► Fixed Exchange Rate System

• Fixed rates provide greater certainty for exporters
and importers.
• Also called as pegged exchange rate system

► Flexible Exchange Rate System

• Flexible exchange rate or floating exchange rates
change freely and are determined by trading in the
forex market.
 Foreign exchange

• Foreign exchange is the mechanism by which the

currency of one country gets converted into the
currency of another country.
• The conversion of currency is done by the banks
who deal in foreign exchange.
• These banks maintain stocks of one currency in
the form of balances with banks
 Foreign exchange- Features

• Round the clock- availability

• Liquidity- flexible
• Prompt Response
• MIBOR,LIBOR
• FERA replaced by FEMA Act of 2000-
flexible regulations
• Market trend- specific direction
 Major Players in the
Foreign exchange Market

• Banks-Authorized Dealers
• Corporates
• Individual Investors
• RBI- open market operations, interest
rate policies
• Investment Managers &Hedge Funds
 Organisations regulating Foreign exchange

• FEDAI- Foreign Exchange Dealer’s Association of India

• DGFT- Directorate General of Foreign Trade
• RBI – Reserve Bank of India
 Role of FEDAI-
Foreign Exchange Dealer’s Association of India

• Association of Banks- foreign exchange- 1958

• Companies Act 1956- self regulatory-Liaison with RBI
• Guidelines and Rules for Forex Business.
• Training of Bank Personnel in the areas of Foreign Exchange
Business.
• Accreditation of Forex Brokers
• Advising/Assisting member banks in settling issues/matters in
their dealings.
• Represent member banks on Government/Reserve Bank of
India/Other Bodies.
• Announcement of daily and periodical rates to member banks
• Innovation in areas like new customized products, bench
marking against international standards
 DGFT- Directorate General of Foreign Trade

• Attached to Ministry of Commerce and Industry

• Regulation and Promotion of Foreign Trade
• Role of Facilitator
• Shift from prohibition to promotion
• Formulating and implementation of Foreign trade
policy
 Role of RBI in Foreign Trade Promotion

• Role of Monetary Authority and Manager of Foreign

Exchange
• Monetary Authority aims to maintain price stability and
ensure adequate flow of credit to productive sectors
• Manager-it seeks to facilitate external trade and payment
and promote orderly development and maintenance of
foreign exchange market in India
• Export credit- rationalization and liberalization of export
credit interest rates
 Factors which effect Currency exchange rate

1. Inflation Rates- inverse

2. Interest Rates - direct
3. Country’s Current Account / Balance of Payments
4. Government Debt
5. Terms of Trade- ratio of import prices to export prices
6. Political Stability & Performance
7. Recession
8. Speculation
 Needs of Exporters

1. Export Packing Credit- pre shipment finance

2. Export Bill Negotiation
3. Export Bill Purchase & Discounting- pay the value of the
invoice- before receiving the documents
4. Export Bill Collection Services
5. Bank Guarantees
6. Rupee advance against export bill- expecting currency to
fluctuate
7. Export LC Advising- authentication of LC
8. Export LC Confirmation- low confidence
9. Supplier’s Credit- extend term credit to importers
Requirements of Importers

1. Import Collection Bill Services- stamping

on bill of exchange, bill of lading
2. Direct Import Bills- FEMA permits
3. Advance Payment towards Imports
4. Import letters of credit
5. Arranging for Buyer’s and Supplier’s Credit
6. Bank Guarantees
 Remittance Services

• EEFC Account Service

• Receipt of Foreign Inward Remittances services-
Payment received by the individual from outside the
country in the foreign currency
• Payment services to abroad (Outward Remittances)-
modes-wire transfer- foreign currency DD- provide
remittance facilities in foreign currency
 Export Earners Foreign Currency Account

• Facility- foreign exchange earners

• Minimizes transaction costs- account holders do not have to
convert foreign currency into rupees and vice versa
• All categories of foreign exchange earners, such as
individuals, companies, etc., who are resident in India, may
open EEFC accounts.
• An EEFC account can be held only in the form of a current
account. No interest is payable on EEFC accounts.
• Payment in foreign exchange- custom duty, purchase of
goods
 Correspondent Banking

• Correspondent Banking is the relationship

between two banks which have mutual
accounts with each other
Eg. American Express Bank maintain a
Indian Rupee account with SBI
 Example of Corresponding Banking by
Canara Bank

Canbank EFT is available through the following Exchange

Houses and Banks
• Al Razouki International Exchange Co LLC, Dubai
• Eastern Exchange Est., Doha, Qatar
• Al Fardan Exchange Co., UAE
• Bahrain India International Exchange Co., Bahrain
• UAE Exchange Centre, Abu Dhabi, UAE
• Zenj Exchange Co., Bahrain
• Laxmidas Tharia Ved Exchange, Oman
• Musandam Exchange Oman
• Arab National Bank Riyadh Saudi Arabia
• Canara Bank London, UK
• Canara bank, Hong Kong
• Canara Bank, Shanghai, China
 Functions of Corresponding Banks

A. Account Services
• i. Clearing House Functions
• ii. Collections
• iii. Payments
• iv. Overdraft and loan facility
• v. Investment Services
 Correspondent Banking Contd.

B. Other Services
• i. Letter of Credit Advising
• ii. LC confirmation
• iii. Bankers Acceptance- is a short-term debt instrument issued by a
company that is guaranteed by a commercial bank
• iv. Issuance of Guarantees
• v. Foreign Exchange services, including derivative products
• vi. Custodial Services etc.
 Types of NRI bank account-
IIBF 176

• To encourage NRI/PIO staying abroad to invest in India – 3 types of accounts:

1. Foreign Currency Non-Resident (FCNR)Fixed Deposits
- only in foreign currency
- higher interest rate in India
- 1 to 5 years
- loan can be extended against funds in FCNR account
2.Non-Resident Externals (NRE) Fixed Deposits/Savings/Current/Recurring
- rupee denominated account
- power of attorney
- interest earned is exempt from Income tax and Wealth tax
- interest rate is similar to Indian FD
3. Non-Resident Ordinary (NRO) Savings Account- rupee denominated
account- rent, dividend, commission etc.
4. Resident Foreign Currency (RFC) Account- Person of Indian origins or non-
resident Indians returning to settle permanently in India can open
an RFC account (Int earned is taxable- no loan given)
 Methods of Financing

• Letter of Credit
• External Commercial Borrowing
• Buyer’s Credit/ Seller’s Credit
• Packing Credit Foreign Currency Loan
 Letter of Credit- Features

• LC is a definite undertaking issued by a bank

The contractual relationship between the buyer and seller are:-
 Buyer and seller
 Buyer and buyer’s bank
 buyer’s bank and beneficiary

Players
 Applicant (Buyer)
 Issuing Bank/ Opening Bank
 Advising Bank
 Confirming Bank
 Beneficiary (Seller)
 Types of LC

1. Irrevocable LC- cannot be amended or cancelled- without

all the parties
2. Revocable LC- can be amended or cancelled- without
consent of the beneficiary- banks do not accept
Revocable LC
3. Unconfirmed LC- undertaking of the issuing bank only
4. Cofirmed LC- undertaking of both issuing bank and
confirming bank- applicant or beneficiary have to pay fee
 Types of LC

5. Revolving LC- regular basis

6. Standby LC- similar to bank guarantee- non-payment-
financial remedy to seller
7. Transferable LC- where seller- agent
8. Back to Back LC- when seller has to procure material from
other manufacturer or trader
9. Red Clause & Green Clause LC- Red Clause-advance
payment- shipment material and arranging for its actual
shipment
Green Clause- advance to facilitate temporary storage of
goods at the exporters end
 Example of Revolving LC

• 1. Importer ABC Corp from Germany wants to import raw material from
exporter SBC Inc in Japan for a period of 1 year at a regular intervals.
• Every month ABC Corp will be importing the material worth $250,000 and
the total value of the import under this contract is $3,000,000.
• The parties agree to open a revolving credit as instead of opening a regular
documentary credit for each transaction every month, one set of credit
opened at the commencement of the contract remains valid till one year.
• Importer saves time and the cost for opening documentary credit for 12
times.
• Under this arrangement importer is able to receive continuous supply of raw
materials for the contracted period of one year.
 Example of Revolving LC

• 2. An oil exporter from UAE, Oil King Inc has signed a contract to
supply oil to an importer in China, Petronit Inc.
• The following is the delivery schedule: 1st month 6000 MT; 2nd month
12000 MT; 3-14 months 12000 MT.
• The agreed payment terms call for Irrevocable, Transferable, Auto-
revolving DLC 100% At Sight.
• Depending on the parties agree, the LC can be replenished either by
amendment or automatic, it will state the shipment schedule and the
value of each installment which will depend on the rate.
• And considering the nature of the goods issuing bank will ideally
permit the installment shipment to be lower than prescribed in the LC
which arises the question whether it is cumulative or non-cumulative.
External Commercial Borrowing

Features
Commercial loans- non-resident lenders
with a minimum average maturity of 3 years
• ECB can be accessed under two routes,
viz.:-
A. Automatic Route -does not require
RBI/GOI approval
B. Approval Route
 ECB Contd.

Who can raise ECB through automatic route?

Corporates-hospitals, hotels, software
sectors, SEZs, Microfinance, Infrastructure
Finance Companies etc
Who cannot raise ECB?
Financial Intermediaries- banks, Fis, Trusts,
Non-profit NGOs
 ECB- Purpose

• Investment
• import of capital goods, new projects
• modernization/expansion of existing units in industrial
service sectors including infrastructure sector.
• Overseas direct investment in Joint Ventures (JV) /
Wholly Owned Subsidiaries (WOS)
 ECB- Merits

• As long as the company's return on invested capital is

higher than the cost of borrowing, it is advantageous for
the company to borrow.
• Tax shield- effect of financial leverage.
• It does not dilute the value of shareholders' equity by
adding to the number of shares outstanding.
• It is a way of raising capital without giving away any
control, as debt holders don't have voting rights, etc.
 ECB- Demerits

• Increase in default risk

• Bankruptcy risk, and a plethora of interest rate and market risks
related to having more debt on a company's balance sheet.
• Increases the actual cost of borrowing
• With public companies, the ratings agencies will see the additional
debt burden and possibly lower the company's rating, which
automatically boosts borrowing costs.
• The effect on earnings due to interest expense payments.
 Buyer’s Credit

• Buyer’s Credit- It is a short term debt-

importer- from overseas lenders- for goods
imported
• It is a cheaper source of fund- close to
LIBOR
• In India, buyer's credit can be availed for
one year in case the import is for tradeable
goods and for three years if the import is for
capital goods.
 Buyer’s Credit- Benefits to importer

• The exporter gets paid on due date; whereas importer gets

extended date for making an import payment as per the cash flows
• The importer can deal with exporter on sight basis, negotiate a
better discount and use the buyers credit route to avail financing.
• The funding currency can be depending on the choice of the
customer and availability of LIBOR rates in the exchange market.
• The importer can use this financing for any form of payment mode;
open account, collections, or LCs.
• Hedging might be required as foreign currency is involved hence
making Buyer's Credit a risky affair at times.
 Supplier’s credit

• Supplier’s credit is a credit facility a Buyer

is able to avail from a Financial Institution in
the seller's country.
• This is usually made available under the
Letter of Credit.
 Packing Credit Foreign Currency Loan

Pre-shipment / Packing Credit' means:-

any loan or advance granted
any other credit provided by a bank to an
exporter for financing the purchase, processing,
manufacturing or packing of goods
prior to shipment / working capital expenses
towards rendering of services on the basis of
letter of credit
 ROLE OF ECGC

• Export Credit Guarantee Corporation (ECGC) of India

Limited, set up by the Govt of India
• Set up in 1957, strengthens the export promotion drive by
covering the risk of exporting on credit.
• Being essentially an export promotion organization, it
functions under the administrative control of the
• Ministry of Commerce & Industry
• Department of Commerce, Government of India.
• ECGC is the fifth largest credit insurer of the world in
terms of coverage of national exports.
 ROLE OF ECGC

It is managed by a Board of Directors

comprising representatives of the
• Government
• Reserve Bank of India
• Banking
• insurance
• exporting community.
 Functions of ECGC

• Offers insurance protection to exporters against payment

risks
• Provides guidance in export-related activities
• Makes available information on different countries with its
own credit ratings
• Makes it easy to obtain export finance from banks/financial
institutions
• Assists exporters in recovering bad debts
• Provides information on credit-worthiness of overseas
buyers
• Provides names and addresses of prospective buyers in
the overseas markets
 EXIM BANK OF INDIA

• The Export Import (EXIM) Bank of

India was set up 1982 for the purpose
of financing, facilitating, and promoting
foreign trade of India.
• International finance wing of IDBI
 Functions of EXIM Bank- G & N Pg 330

• Financing of exports and imports

• Financing of joint ventures in foreign countries
• Financing of export and import of machinery and
equipment on lease basis
• Providing loans to Indians- JV in foreign
countries
• Merchant banking functions
• Technical, administrative and financial
assistance in connection exports or imports
 Lending Operations- EXIM Bank

1. Funded Assistance
a. Loans to Indian Companies
b. Loans to foreign governments, companies and financial institutions
c. Loans to commercial banks in India
2. Non-Funded Assistance- guarantee
3. Assistance for Export Bids
4. Finance for “Deemed Exports”
NEW SCHEMES
 Buyer’s Credit under NEIA (National Export Insurance Account)
 Renewable Energy Financing- EIB (European Investment Bank)
 R & D Financing
Capital and Resources of EXIM Bank

• Authorised capital of EXIM Bank is Rs. 200

cr- subscribed wholly by GOI
Borrowing from GOI
Borrowing from RBI
Through issue of bonds and debentures
Borrowing foreign currency from other
countries
 Questions

1. What do you mean by Forex? What are the features of Forex Markets?
2. Give the meaning of “letter of credit”. Explain how it works.
3. Explain the players and different types of Letter of Credit.
4. What is “Correspondent banking”? Mention the services rendered by
correspondent banking
5. What is exchange rate? What are the factors that effect exchange rate?
6. What are the functions of ECGC and EXIM bank?
7. Explain the factors effecting Forex Rate.
8. What are the types of accounts that can be opened by NRIs?
9. What are the methods of International Financing?
10. Who are the major players in the Forex Market
11. Explain the credit facilities provided to the importers & exporters.
12. List out the organisations regulating Foreign exchange.