to illustrate that for banks to move to the next orbit, they have to realise their true strengths and weaknesses. they need to build on their strengths and rectify their weaknesses to prepare and adapt themselves for the challenges which these external, regulatory and internal drivers are going to entail. in this, a very relevant and critical issue which emerges is whether the regulatory and supervisory processes are also geared up for the next orbit. iii. how equipped are the supervisors? the existing supervisory framework for commercial banks in india has fared rather well over the years and drawn praise from peer supervisory agencies, global standard setters and the fsap assessors for the regulatory and supervisory regime as the indian banking system remained largely stable during the global financial crisis. however, as supervisors, we face challenges. the growing complexities of the banking business coupled with significant cross - border and cross - sector expansion has rendered the system increasingly vulnerable to the threat of “ contagion ”. the paradigm shift in the banks ’ business processes, products and systems with an ever - growing reliance on ict, as delivery channels pose immense challenges before the banking supervisor. while on the one hand, the banking landscape has witnessed considerable changes, the supervisory processes within the reserve bank have remained more or less static. this has necessitated a review of the supervisory processes and rationalisation of the organisational structure for bank supervision. additionally, lessons from the financial crisis which have manifested in form of new regulatory and supervisory benchmarks like basel iii, revisions to the core principles for effective bank supervision, increased focus on systemically important banks also have to be factored in for making the supervisory processes and mechanism at the reserve bank more robust and capable of addressing emerging issues. the present supervisory processes followed by the reserve bank are focused on elaborate transaction testing and compliance monitoring and do not provide a forward looking measure of risk that the supervised entities pose to the supervisory objectives. we need to move away from transaction based to risk based and from incidence based to theme based supervision. the on - site assessment and the off - site surveillance processes also need rationalization so that efforts made by the external / internal auditors of banks could be effectively utilised and duplication avoided. supervision has to be intrusive and decisive. the basic underlying theme should be that supervision must facilitate good business and must obstruct bad business. another issue worth pondering is whether the reserve bank ’ s supervision adds value for the supervised entity or is it an “ unnecessary evil ” that they have to endure

offset the current account deficit. for a few months during the 2008 – 09 financial crisis, the position was reversed and, when that happened, the rupee behaved much like it did over the past several weeks ( chart 1 ). between july 2008 and february 2009, the rupee depreciated by nearly 17 per cent. essentially, when capital stops coming in, the current account drives the exchange rate and, naturally, the pressure is to depreciate in the face of the deficit. with the kind of volatility we have seen in global capital flows over this period, virtually all eme currencies faced pressure to depreciate. however, the eventual magnitude of change reflected differences between countries in current account conditions as well as policy responses. bis central bankers ’ speeches for the past few years, the exchange rate regime in india has been what might be best described as a “ bounded float ”. there are virtually no restrictions on foreign direct investment ( fdi ), except for limits on specific sectors, and portfolio investment in equities. however, there are restrictions on debt inflows, driven by considerations of external stability. these limits relate to quantity, tenor and pricing. short - term debt is the least preferred, because it is seen as most vulnerable to sudden reversals, while long - term debt, despite risk concerns, is seen as contributing to the resource flow into infrastructure, so is viewed more favourably. these controls on debt might be viewed as “ structural ” or “ strategic ” capital controls ; they are altered relatively infrequently in response to changing macroeconomic conditions and not with a view to impacting the daily movement of the exchange rate. while we do not target the level of exchange rate, nor do we have a fixed band for nominal or real exchange rates to guide interventions, the capital account management framework helps in the bounded float. if volatility increases, appropriate tools, including those in the realm of capital account management are used. within these overall boundaries, the exchange rate is determined by daily variations in demand and supply. in the recent episode of depreciation, as i indicated earlier, a sharp fall in capital inflows led to a drying up of supply, while demand on account of the current account deficit continued unabated, leading to the outcome we saw. there has been a long - standing debate on the merits and de - merits of this exchange rate policy, which has returned to centre - stage in the