this from my discussion. whenever a contract is denominated in a foreign currency, the contracting party faces uncertainty in its cost or revenue and ultimately profit on account of fluctuations in the exchange rate. i would like to particularly emphasize the case of exporters, who in the face of stiff global competition and absence of any significant pricing power, have to reckon with rather thin margins which can be easily eroded because of fall in the value of the foreign currency before the payment is received. the same applies to importers as well when they are handicapped by incomplete pass - through of the increase in their input cost. the foreign currency borrower, who has to carry the exposure for a much longer period than the exporter or the importer, can find his cash flows and the bottom line seriously impaired because of depreciation of the home currency. you will be aware that one of the maharatna companies declared a 18 % drop in q - 1 profit and a loss in excess of rs 250 crore reportedly ascribed to foreign currency debt. 2 10. how do the corporates manage this risk? there are basically two routes available : non - hedging techniques and hedging techniques. non - hedging techniques include : a ) settlement of transaction through advance payment, which though beneficial for an exporter, carries a cost for the importer and is impossible for a borrower. even for the exporter, it is doubtful, in how many cases in our context an exporter can demand and obtain advance payment without the risk of losing the order. b ) invoicing in the home currency has been discussed a great deal in recent times, which, however is quite some time away before it can be effectively implemented. in the current state of global slow - down declining exports, our exporters simply are not in a position to dictate terms. 11. now, when it comes to hedging, are the corporates taking a well - deliberated and calculated call? to this, “ no ” would have to be the answer in most cases. the reason is obvious. the rupee was rock solid in the range of 44 to 46 for about 2 years from 2009 to 2011. that lulled the corporates into a sense of complacency that nothing can go wrong. they started believing that this is the eternal range for rupee. a good bit of sales talk from various analysts ( and some bankers too ) convinced then that hedging is an unwarranted

because we are required to take decisions today that will fructify at a future point in time. because all financial prices are inherently forward looking in the sense that they incorporate the participants ’ future view, it is no wonder that volatility is their most important attribute. it is further complicated by the fact that usually our future view is informed by our past experience. it may be interesting to recall that in 2007 – 08 when rupee was at 39 levels, informed participants were forecasting 35 – 36 levels by the end of 2008 and very recently, during end - june this year, when rupee reached 57, market was looking at 58 – 60 or even 60 – 65 as inevitable. what i wish to emphasize is that when economic agents take decision based on such a view of the future, it certainly does not bode well either for them or for the economy as a whole. this raises a related issue. if we accept that market makers / analysts who often are in a position to influence the market sentiment tend to be either euphoric or despondent, what is the accountability if their forecasts turn out to be widely wrong but meanwhile some participants in the market do get taken in by these forecasts and their decisions then turn out to be sub - optimal or inappropriate? 8. thus, it needs to be recognized that increased volatility in the financial markets has become a way of life – a kind of new normal - and it has to be accepted as such. capital account liberalization during last few decades and enormous increase in the scale and variety of cross border financial transactions has increased the magnitude of exchange rate bis central bankers ’ speeches movements, particularly in the emerging market economies. of course, volatility may be moderate for some stretch of time – recall that in 2006 people were seeking explanations for low volatility in the forex market1 – and heightened at other times, as now. the question that i will now seek to address is : what should be our response to volatility? for ease of exposition, i shall mainly discuss the issue in the context of two sets of market participants. the real sector agents – exporters, importers, foreign currency borrowers and so on and the banks or authorized dealers. real sector or real culprits? 9. first, the real sector. in view of the extant capital account restrictions, exposure of residents to assets denominated in foreign currency ( other than overseas direct investment ) is marginal and therefore i exclude