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Govt. Policies:
Capital Account Convertibility

Last Updated 15 Mar, 2003

The road to convertibility, in India, is a calculated gradual transition path starting in the early '90s when the High Level Committee on Balance of Payments, chaired by C Rangarajan, recommended the introduction of a market-determined exchange rate regime. The Liberalized Exchange Rate Management system was instituted in March 1992 as a transitional phase before the convergence of the dual rates on March 1, 1993. The current account convertibility was achieved in August 1994 by accepting Article VIII of the Articles of Agreement of the International Monetary Fund.

At the next stage, a 14-member Sodhani panel, an expert group on foreign exchange, was set up in November 1994. The Sodhani Committee Report tabled in 1995 helped develop, deepen and widen the forex market through introduction of various products. The Tarapore Committee on Capital Account Convertibility in 1997 defined the framework for the third and final stage of forex liberalisation.

The S S Tarapore Committee on Capital Account Convertibility (CAC) in May 1997 had chalked out three stage, to be completed by 1999-2000. The committee had indicated certain signposts to be achieved for the introduction of capital account convertibility. The three most important of them are: fiscal consolidation, a mandated inflation target and strengthening of the financial system. The two major recommendation of the committee were:

  • a reduction in gross fiscal deficit from 4.5 per cent to 3.5 per cent in 1999-2000, and
  • a mandated rate of inflation for the period 1997-98 to 1999-2000 at 3 to 5 per cent.
The point to note is that although none of the core conditions of the Tarapore panel have been met, the RBI has gone ahead charting its own course. Even in 2002-03, banks' CRR is much higher than what Tarapore had recommended and so are gross NPAs not to speak of the fiscal deficit. In essence, RBI's approach is not clinical but sequential.

In the run-up to full convertibility, the committee had charted out a phased liberalisation of capital inflows and outflows:
  • Allowing Indian joint ventures/ wholly-owned subsidiaries to invest up to $ 50 million abroad;
  • Removal of existing requirement of repatriation of the amount of investment by way of dividend within in five years;
  • Allowing exporters/exchange earners to keep 100 per cent of their forex earnings in the exchange earners foreign currency accounts;
  • Permitting individual residents to invest in financial assets abroad up to $ 25,000 and gradually raising the limit to $ 50,000 and $ 1,00,000;
  • Allowing mutual funds to invest in securities abroad within an overall limit of $ 500 million in phase I, $1 billion in phase II and $2 billion in phase III;
  • Giving banks greater freedom to borrow and deploy funds outside India in stages;
  • Allowing foreign institutional investors' portfolio funds to be invested and repatriated without prior RBI scrutiny;
  • Allowing FIIs, non-resident Indians and foreign banks full access to forward cover for their Indian assets;
  • Permitting banks and financial institutions to participate in gold markets aboard; and
  • Withdrawing the Reserve Bank from playing the role of the government's merchant banker.

Here are the measures that the Reserve Bank has taken over the last few months to emphasize its commitment of capital account convertibility to individuals, corporations, banks and other market players:
  • Overseas funds are allowed to hedge their entire foreign currency exposures arising from investments in Indian equities instead of just 15 per cent earlier.
  • Indian banks were initially allowed to invest up to 50 per cent of their equity capital or $ 25 million -whichever is higher - in overseas money market or debt instruments. Now this limit too has been removed and it is up to the board of the individual banks to decide on how much they want to invest abroad.
  • Indian residents are allowed to open domestic accounts to deposit foreign currency obtained through payments received for services provided overseas, honorariums or gifts and residual travel money. There is no ceiling on the amount that may be kept in such accounts.
  • Indian firms can borrow up to $ 50 million from global sources without government approval and prepay foreign loans ahead of schedule.
  • Individuals can now get up to $ 500 without filling any form or submission of any documents.
  • Remittance of foreign exchange for medical treatment up to $ 50,000 is allowed without submission of any documents.
  • Remittance of foreign exchange for travel and education or gifting of funds up to $ 5,000 has also been freed.
  • Individual professionals can now retain up to 100 per cent of their foreign exchange earning in EEFC accounts.
  • Repatriable status accorded to all non-resident bank deposits except balances in NRO accounts.
  • Capital transfers for NRIs up to $ 1,00,000 out of sale of immovable property as also inheritances and legacies has been permitted.
  • Limits for Indian direct investments under the automatic route has been doubled to $ 100 million.
  • Software exporters are encouraged by permitting them to receive 25 per cent of the value of their exports in the form of equity of start-up companies.
  • Two-way fungibility of ADRs/GDRs was operationalized to bring about alignment in the prices of Indian stocks in the domestic and international markets.
  • Corporates have been accorded greater freedom to raise (up to $ 50 million) and pre-pay foreign currency borrowings (up to $ 100 million).
  • Corporates have also been accorded greater freedom to raise short-term suppliers/buyers credit for imports (up to $ 20 million).
  • FIIs have been allowed to trade in exchange traded derivatives in India.
  • Corporations are free to rebook cancelled foreign exchange forward contracts.
  • Swap and open position limits available to banks have been raised to enable them to offer finer rates to the customers.
  • Finally, RBI is also actively considering introducing rupee-based currency options.

There is still a long way to go. For instance, banks have been allowed to deploy money overseas without any restrictions but only in debt and money market instruments and not in equities. Similarly, the cap on $ 500 million for mutual funds to take overseas exposure may sound too little. Nobody is allowed to punt on the rupee and RBI is still policing the forex market, albeit in a subtle way. But the Reserve Bank seems to be more concerned about "effective convertibility". For all practical purposes, rupee is now virtually convertible on capital account for individuals. As far as business is concerned, all "flow" transactions are convertible; it is only the "stock" - the assets - that is left out.

Individuals also allowed to invest in listed firms abroad.
  • Permission also be granted to listed Indian companies to invest abroad in companies listed in recognized overseas stock exchanges, having at least 10 per cent shareholding in a company listed on a recognized stock exchange in India. Such investments should not exceed 25 per cent of the Indian company's net worth as on the date of the last audited balance sheet.
  • Mutual funds are being permitted to invest abroad in companies which are listed on overseas stock exchanges, and which have at least 10 per cent shareholding in a company listed on a recognized stock exchange in India. The overall cap for investment abroad by mutual funds is, hereby, raised to $ 1 billion.
  • Apart from companies, individuals are also being permitted to invest abroad in companies which are listed on overseas stock exchanges and which have at least 10 per cent shareholding in a company listed on a recognized stock exchange in India.
  • The limit on annual basis of investment has been raised up to $50 million by Indian companies planning to make acquisitions of foreign units or direct investment abroad in joint ventures/wholly owned subsidiaries on an annual basis through automatic route without being subject to the three year profitability condition.

The above report is compiled from newspaper reports appearing from time to time. It is not guaranteed for accuracy or completeness. No obligation is undertaken for updating this information on an ongoing basis. If any mistake or lapse is dedected, please do lwt us know by writing to us at We shall make the necessary corrections and changes. Thank you for your time and for using our services.
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