The RBI issued the directive on LoUs and LoCs on Tuesday, a few month after it was found that diamond retailers Nirav Modi and Mehul Choksi had misused LoUs issued by PNB to defraud the financial institution of over $2 billion. An LoU is a sort of assure between two banks that permits the issuer financial institution’s buyer to get overseas alternate from one other Indian financial institution’s overseas department within the type of short-term credit score.
The RBI resolution may doubtlessly push up the price of imports by as much as half a proportion level, in addition to placing overseas banks on a fair keel with Indian banks in financing imports, bankers stated.
“This regulation will definitely assist world banks that have been earlier outpriced by Indian banks, to get again to financing real commerce finance transactions of Indian corporates and assist Indian imports, although withholding tax would add to the price of the importers,” stated Joiel Akilan, ED & chief representative-India of BBVA, one among Europe’s main banks.
The RBI directive is efficient instantly. Nevertheless, “letters of credit score and financial institution ensures for commerce credit for imports into India might proceed to be issued topic to compliance with” current rules, a notification from RBI stated.
A ban on using LoUs and LoCs may inconvenience some Indian corporates which have an extended working capital cycle—that means these firms which take a number of months to get again the cash used of their enterprise by promoting their items, in comparison with different firms that may get better their cash in weeks.
Indian corporates use LoUs to make funds to these firms from which they purchase items to ship to India. It’s alleged that Modi and Choksi had used LoUs a lot past the restrict they have been eligible to and at last defaulted on the funds to PNB.