RBI hikes rate ceilings on banks FCNR deposits to support foreign flows | Mint

The Reserve Bank of India’s (RBI’s) decision to increase the interest rate ceilings on foreign currency non-resident (banks) account, or FCNR(B), deposits is aimed at supporting foreign inflows into the country as the domestic currency battles devaluation pressures against the US dollar.

FCNR (B) is a deposit scheme that allows non-resident Indians (NRIs), persons of Indian origin (PIOs) and overseas citizens of India (OCIs) to invest their foreign earnings in Indian fixed deposit accounts. Such deposits can be made in multiple currencies such as US dollar, British pound sterling, Australian dollars, euros and Canadian dollars.

“The move to incentivize the FCNR borrowings (by raising interest rate ceiling) reflects the fact RBI would be weighing the cost of heavy FX (forex) intervention in the past two months amidst FPI (foreign portfolio investor) outflows and limited conviction on steady inflows ahead,” said Madhavi Arora, lead economist, Emkay Global Financial Services.

“This is clearly a tacit attempt to tap other sources of foreign capital flows, which could give RBI some breathing room and lower its need for FX intervention,” she added, pegging the central bank’s FX market intervention in the past two months at $35-40 billion in the spot and forwards market and at $60 billion in the non-deliverable forwards (NDF) market.

India’s FX reserves snapped their eight-week losing streak, increasing by $1.51 billion to hit $658 billion as on 29 November, according to data released on 6 December. Coming off five-month lows, the reserves rose for the first time in nine weeks after dropping by nearly $48.3 billion cumulatively in the last eight weeks. The overall reserves had dropped by $1.31 billion to $656.582 billion in the previous reporting week. Forex reserves had touched an all-time high of $704.885 billion at the end of September.

In its Statement on Developmental and Regulatory Policies, released alongside the monetary policy statement on Friday, the RBI increased the interest rate ceilings on FCNR(B) deposits of 1-5 years’ maturity by up to 150 basis points (bps). A basis point is one-hundredth of a percentage point.

Banks can now raise these deposits at the overnight alternative reference (ARR) plus 400 bps for deposits of 1-3 years, and at ARR plus 500 bps for deposits of 3-5 years. Earlier, rates on FCNR(B) deposits were subject to ceilings of overnight ARR for the respective currency/swap, plus 250 bps for deposits of 1-3 years and overnight ARR plus 350 bps for deposits of 3-5 years.

“In order to attract more capital inflows, it has been decided to increase the interest rate ceilings on FCNR(B) deposits,” RBI governor Shaktikanta Das said in his speech, adding that this relaxation will be available till 31 March.

India’s non-resident deposits, including FCNR(B) deposits, recorded a net inflow of $10.2 billion in Q1 FY25 compared with $5.4 billion in the same period last year.

This is the second such recent instance of the central bank relaxing FCNR(B) limits. Prior to this, in July 2022, RBI had allowed banks to raise new FCNR(B) and non-resident external (NRE) deposits irrespective of the ceilings on interest rates between 7 July 2022 and 31 October 2022. The RBI had then also exempted FCNR(B) and NRE deposits, accrued between 1 July 2022 and 4 November 2022, from the computation of net demand and time liabilities (NDTL) for maintenance of the cash reserve ratio (CRR) and the statutory liquidity ratio (SLR).

CRR is the minimum reserves that banks need to park with the central bank in cash or as deposits. SLR refers to the minimum percentage of deposits that a commercial bank must keep in the form of liquid assets.

This time around, aiding capital flows is also seen as a liquidity measure to support banks that continue to battle a deposit crunch, led by credit growth sustainably outpacing deposit growth for a bulk of the last two years. In addition to domestic efforts to garner deposits, large public sector banks and mid-to-large private banks are also making efforts to attract NRI deposits, including foreign currency deposits.

Last month, Punjab National Bank (PNB), as part of the launch of its 24X7 NRI Customer Service Centre and financial services for NRI customers, introduced a FCNR-(B) Forward Linked Premium Deposit Scheme.

“From the regulator’s point of view, if banks can get more dollars, it will help their liquidity as well as help build FX reserves,” Madan Sabnavis, chief economist, Bank of Baroda, told Mint. “Both of them are the motivation but we need to see how much more comes in because there is a cost consideration and how much is the demand for these deposits.”

“Whichever banks need to offer higher rates will do so, but it will depend on each bank’s individual requirement of funds,” he said. “The issue is that even if they pay higher and get the deposits, where are they going to deploy it? Given that credit (and GDP) growth is slower outside India and most large corporates borrow from the bond markets, using these foreign currency deposits to lend in India will only add to banks’ FX risk.”

Mandar Pitale, head treasury, SBM Bank India, said though the increase in ceiling on FCNR deposit interest rates will have a “sentimental impact”, an actual incremental influx of dollars needs to be watched as banks’ present dollar FCNR rates are way below the present ceilings.

“Hitting the revised upward ceiling will increase covered cost of funds through FCNR route significantly, adding the impact due to the recent surge in forward premium induced by large rupee volatility,” he said.

Others are even more sceptical of the RBI’s move helping banks or foreign flows as rates offered by most Indian banks are high for the local market despite being below the current ceilings.

State Bank of India, in its ‘Ecowrap’ report, said that it does not expect banks to increase the rates. With SOFR (secured overnight financing rate) at 4.59%, it pegs FCNR (B) deposits in US dollar at around 7.09% for 1-3 year tenors and 8.09% for 3-5 year tenors.

“The decision to raise the upper limit of FCNR rates will not bring any new capital inflows. Instead, a CRR cut on such products would have been very helpful,” the report said.

The central bank cut the CRR of all banks by 50 bps in two equal tranches–with effect from the fortnights beginning 14 and 28 December, respectively–to 4.0 per cent of NTDL. This will restore the CRR to the rate prevailing before the commencement of the policy tightening cycle in April 2022. The move is expected to release primary liquidity of about ₹1.16 lakh crore into the banking system.