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Paul Noronha

Treading cautiously: Dr. Y, V, Reddy (right), Governor, RBI, and Mr. S. Sridharan, Chairman, FEDAI, at a function in Mumbai on Monday. –

Our Bureau

Mumbai, Oct. 8 India does not need stabilisation funds or sovereign wealth funds (SWF), at this point in time, said Dr Y. V. Reddy, Governor, Reserve Bank of India. Creation of such funds may not be necessary given the country’s consistent current account deficits and its diversified export basket, Dr Reddy said, while speaking at the Golden Jubilee Function of Foreign Exchange Dealers Association of India.

Such funds try to smoothen the revenue flows arising out of volatility in commodity export proceeds and are created amidst current account surpluses when the foreign exchange reserves attain a level higher than what is perceived as ‘adequate’.

“India does not have a dominant exportable natural resource, which might bring windfall gains. Further, India has experienced consistent current account deficits, barring a modest surplus for a few years,” Dr Reddy said.

Explaining why creation of such funds may not be possible in the near term, Dr Reddy said that India is vulnerable to shocks on account of oil price and fluctuations in food grains production, which is still largely dependent on monsoon.

Also, a large part of the capital flows are equity flows and a major part of the Foreign Direct Investment is either private equity or is for acquisition of existing firms, rather than investment for greenfield projects.

“Therefore, capital account shocks, which would be independent of the economic fundamentals of the country or domestic macroeconomic environment, cannot be fully ruled out,” he said.

The aim of a Stabilization Fund is to soften the effects of volatility in export earnings, while SWFs generally refer to special purpose investment vehicles created to manage national savings to generate higher returns.

Foreign exchange dealers said that these funds are popular in South East Asia, Malaysia, Singapore and in the Gulf. Dealers also feel that given the recent huge accretion to forex reserves, creation of such funds may be relevant. However, it is unlikely in the near future due to the current account deficit, said a senior official of a public sector bank.

“The reserves we have now are more than our requirements and it may increase as the RBI is likely to continue with its sterilisation efforts for some more time. But the creation of a SWF is not possible in the near future due to the country’s current account deficit,” he said.

Stabilization Funds are normally expected to constitute a macro hedge against a sharp fall in the export receipts from commodities that are mainly exported. They are set up primarily to insulate the budget and the broader economy from excess volatility and inflation by smoothening revenues flowing to the budget, saving during a revenue windfall and dis-saving during a price slump, he said.

Stabilisation funds can also be converted into endowment fund if there are sustained windfalls on export front, as was done in Norway, Dr Reddy said.

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