Challenges in Finance

Broad Approach
The approach of developing countries to the General Agreement on Trade in Financial Services (GATFS) under World Trade Organisation (WTO) is marked by caution and care. In this connection questions are: Are there genuine reasons for this approach ?

Another issue in respect of GATFS pertains to commitments of the member countries of WTO. Common question is: Are the commitments of the member countries absolutely compulsory under WTO rules ? Specifically, are framework of GATFS rules and the national schedules of commitments allow governments of member countries to decide opening-up of the particular sector in their economies ?

Last question which, one is eager to know is: what are the commitments of India under the Financial Services Agreement ? And what are the ensuing challenges to the Banking Industry in India consequent upon commitments.

Here an attempt is made to address in brief these three questions.

The Links between Financial Services Trade, Capital Flows & Financial Sector Stability

Capacity
-Transparency & information -Regulation & Supervision -Infrastructure & market dev., risk management

Capital flows Financial Services Trade -Quantity -Structure (term, instrument) -Volatility Financial Sector Stability

Efficiency
-Competition -Technology transfer -Skill transfer & development

Purely Theoretical Plane

An existence of vast literature both empirical and theoretical dealing with merits of openness of the financial sector. Broadly the studies discuss
(a) the impact of financial sector liberalization on growth and development of the economy (b) the link between openness of the financial sector and financial sector overall development (c) link between productivity efficiency and financial sector deregulation. (d) Financial stability and relaxation in financial sector.

The theoretical predictions and conclusions based on set of assumptions. Not applicable universally.
Relationship between optimal benefits of financial sector liberalization and prevailing conditions in the financial sector.

Deregulation without adequate supervisory forces might cause destablisation and disaster in the financial sector.

The developing countries approach marked by caution and care with respect to their commitments to GATFS seems to be justified to a great extent.
A need for a country to tread cautiously in respect of some sub-sector services like banking and insurance.

Precisely against this background, the framework of GAFTS as accepted by the countries is sufficiently flexible and adoptable.

FRAMEWORK OF GATFS
Liberalisation is incremental. Governments are free to decide which sector they open, guarantee the right of foreign supplier and the extent of the rights. WTO does not require the members to offer unrestricted access to their markets. Commitments are accompanied by stipulations relating to accessibility and regulations.

The financial services negotiations concluded in December 1997 under the auspicies of WTO bear the following characteristic features:
a) Negotiations are not concerned with the liberalization capital account convertibility. They relate to the terms and conditions of foreign suppliers business, subject to capital account controls in force.

b)

c)

Nothing in the service agreement that affects adversely the governments ability to pursue sound economic and regulatory policies. Governments are free to take necessary measures to preserve stability in the financial system and non-discriminatory restrictions on trade in services.

d)

Under the services agreement, the commitment in the WTO provides guarantee that the terms and conditions on which investments are made are not going to change overnight. This requirement is not an additional threat but is an answer to the crisis.

The framework of GATFS reflects

a)

Sufficient flexibility Accommodating for substantial adjustments in commitments depending on the level of financial sector development and macro-economic situation in the country. Basic principle underlying the WTO commitments: progressive liberalization.

b)

C)

Frame of Commitments under GATFS

Two types of Commitments in respect of market
access and national treatment:

a)
b)

Sectorial schedule of commitments and

Horizontal schedule of commitments.

The former refer to commitments for negotiations relating to specific individual sector, while the latter pertains to all sectors of the economy.

The Commitments Structure

a)

Full freedom in making choice of services for negotiations. Scope for specifying the schedule of limitations.

b)

C) Design of four modes of supply of services i.e.,

i)

Cross Border Supply.

ii) Consumption on abroad. iii) Commercial presence and

iv) Movement of natural person. These have been devised in the light of the basic approach under WTO namely Progressive Liberalisation in Services Trade.

Historical Perspective
Restrictive Policy Central Banking Enquiry Committee (1931): suggested for confining operations of the foreign banks to port towns. Relaxation in Policy 1959 Needed goodwill of the international community for success of development plans. Thus, liberalization of licensing policy.

Opposition to the Relaxation No country in the world opened doors to foreign banks except U.K. Foreign banks offered the services which Indian banks could not provide. Restoring Restrictive Policy Principle of Reciprocity Basis for licensing policy.

INDIAS COMMITMENTS UNDER WTO GATFS

* Market accesses are broadly limited to mode 3 of trade in services commitments i.e., commercial presence only

The commitments on market access under mode 3 include:

Only through branch operations of those foreign banks which are licensed and supervised as a bank in its home country.

Grant of licence for opening up branches by foreign banks in India as permissible under the existing laws.

The licenses issued for the ATMs installed by foreign branches will not be included in the ceiling on licenses.

*
*

The ceiling on licenses is twelve licenses per year. Investments in other financial services companies by branches of foreign banks individually not to exceed 10 percent of owned funds or 30 percent of the invested capital of the company whichever is less.

Foreign banks have options to operate either as branches or set up as subsidiaries of their parent banks and to adhere to all banking regulations including priority sector lending. Foreign banks having branches in India have been permitted to acquire upto 49 per cent of stake in any private sector bank and upto 20 percent in the case of public sector banks including State Bank of India.

Transfer of existing banking Company from residents to nonresidents the foreign investment through automatic route is not permitted.

Most favoured nation (MFN Article II) exemption sought in the original schedule for negotiation was abandoned. The committment was made for offering MFN treatment on a reciprocal basis.

Proposals
A ceiling on the share of assets of foreign banks in the total assets of banking industry including funded and non-funded assets to be raised from present 15 percent to 20 percent.

Raising foreign bank branches licences from 12 a year to 15 to 18.

Allowing foreign banks to have their stake upto 74 percent in the private banks.
*

Thinking to allow the foreign banks for bringing more funds for expansion in order to ease passage for Indian banks intending to expand their presence in developed markets.