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RBI assessing impact of flexible
June, 22nd 2010

The Reserve Bank of India (RBI) is in the process of evaluating the impact of Chinas move to make its yuan exchange rate more flexible.

It is way too early to judge the concrete impact on exchange rates or any other variable of the Chinese announcement, said Subir Gokarn, deputy governor of RBI to reporters on Monday at the sidelines of an event on financial planning in the city.

On Saturday, the Peoples Bank of China announced that it would effectively de-peg the renminbi from the US dollar.

Clearly there is a strong signal going out from China on its change of stance. It has moved from what was effectively a dollar peg to a regime that they had initiated in 2005, which diversifies the peg. It had not become a floating currency purely. So there are implications for both exchange rate movements at this point and also capital movements across countries as investors respond to this change, Gokarn said.

On Monday, the yuan rose by the most of any day since its landmark revaluation in 2005, climbing 0.42% to 6.7976 to the dollar.

A flexible exchange rate policy could push up the value of the yuan, which may have a mirror effect on other Asian currencies, including the rupee.

When asked whether Chinas move would add to volatility on the dollar/rupee exchange rate, Gokarn said that a sense of reassurance has set in post the yuan pledge and one should not be worried about the short-term volatility of the rupee.

I think volatility is not the issue. The issue is whether investors have the means to hedge themselves against it. So in a scenario in which hedging opportunities are available I dont think we should be that worried about the short-term volatility.

I think we also have to recognise that both in our context and the global context, investors will go into the situation using all means they have to mitigate volatility. We made a major move in that direction and when we introduced exchange rate futures, Gokarn said.

Meanwhile, finance secretary Ashok Chawla said the government needs to study the impact of appreciation of the Chinese yuan on India. Lets not get into that. Lets wait and watch, he said.

Chawla said stability in the global economy is crucial for India.

Gokarn also said the recent liquidity crunch seen by the system is temporary.

In order to remove some strain, last week the RBI announced repurchase of three gilts worthRs 20,000 crore.

We think that this (the repurchase) will certainly ease whatever pressure may build up. If not, we will consider other means to ease the pressure. But I want to emphasise that the liquidity crunch is temporary.

Money that is accruing to the government account will find its way back into the system. So it is not a permanent or structural change in the liquidity scenario, Gokarn said.

Last month, the RBI also took two steps to mitigate the pressure due to the 3G auction payments.

One was to bring down the statutory liquidity ratio requirement of banks temporarily to 24.5% from 25%. Secondly it cancelled two T-bills auctions.

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