The Hindu Business Line : Caution marks banking deals with Pakistan

POLITICAL relations may be thawing internationally, but Indian bankers are still wary of accepting LCs (letters of credit) and guarantees from their Pakistani counterparts.

Till recently, most domestic banks insisted that financial transactions be routed through British or US banks operating in that country. This is in view of the greater comfort levels Indian banks have with international banking institutions.

That is not to say some glasnost in financial relations has not taken place between the two countries. Banks have begun building rapport, though they are going about it very cautiously. As a result, domestic banks' transactions are restricted only to Pakistani banks with large international operations. The preferred Pakistani banks include Habib Bank Ltd and Muslim Bank Ltd. Bankers said that solvency issues of Pakistani banks still remained an issue. This was partly on account of the opaque accounting guidelines in that country. Banking sources said contacts were restricted only to the few Pakistani banks compliant with the Basel guidelines of the Bank for International settlement. Indian banks are already on the threshold of conforming to Basel II standards.

These concerns notwithstanding, some of the banks are attempting to build bridges with that country. These include public sector banks such as Punjab National Bank, which already has some arrangements for trade financing with Pakistan's Habib Bank.

Canara Bank is exploring the possibility of reopening its Karachi branch, expropriated by Pakistan in the late 40s. But the trade financing arrangements put in place include acceptance of LCs. (A letter from a bank guaranteeing that a buyer's payment to a seller will be received on time and for the correct amount. In the event the buyer is unable to make payment on the purchase, the bank will be required to cover the full or remaining amount of the purchase.)

And acceptance of LCs is restricted only to those banks whose names appear in the International Bankers Almanac. This almanac is a document providing bankers with information on the global banking system, credit information and financial research. International bankers have relied on this intensely researched document for the last 150 years.

Added to that is one more layer of security - - restricting the LCs only to correspondent account balances. Bankers said this was done since many of the domestic banks would have to rely on foreign banks for conducting due diligence on their issue of LCs. Such third party due-diligence, however, was not fully acceptable. Therefore, the correspondent or nostro account.

However, bankers said that maintaining correspondent balances had nothing to do with faith.

"It is just a matter of comfort and the respective domestic currencies are not fully convertible," one banker who declined to be identified said. But the nostro balance also provides bankers with the comfort that in the event of a default, there is recourse available to them for recovering outstanding dues.

Where such balances are not available, bankers said, they would insist on the support of international banks which would provide counter guarantees on the LC issuances that are normally available against a fee.

Bankers said given the rooted mistrust between the two countries, such layering of financial security would remain a matrix even as trade between the two countries grows.

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Caution marks banking deals with Pakistan