Banking on Commodity Derivatives Trading: A Risky Proposition

By Kavaljit Singh | Briefing Paper # 9 | December 2012

On 10th December 2012, India’s Finance Minister P Chidambaram added a new clause in the Banking Laws (Amendment) Bill 2011 which was not part of the original amendments vetted by the Parliamentary Standing Committee on Finance last year. The new clause allowed the entry of banks in commodity futures trading in India. It also allowed mutual funds, insurance companies and institutional investors to trade in Indian commodity futures markets.

Due to strong opposition by several political parties on the grounds of violation of Parliamentary procedure, the government was forced to drop this clause from the Banking Bill which was passed by Parliament on 20th December. Nonetheless, this controversial clause would be incorporated in the Forward Contracts (Regulation) Amendment Bill 2010 which is likely to be tabled in the Parliament next year. In a report on this Bill, the Standing Committee on Food, Consumer Affairs and Public Distribution (2011-12) has
recommended that banks (along with insurance companies and mutual funds) should be allowed to invest in the commodity futures markets in order to enhance market liquidity and provide better price discovery.

Allowing banks to directly trade in commodity futures signals a major policy shift in the banking sector with wider ramifications and therefore it should be widely discussed and debated in the coming months.