Special Window Can Bring In About $90 bn NRI Deposits, But Not All Will Be Fresh Money

Chennai: RBI’s special window to attract foreign currency deposits from non-resident Indians is likely to see inflows of around $90 billion. However, a certain portion of this money could be coming through deposit switching. While the inflows have not made much impact on rupee or external position, the increased dollar reserves will remain as a buffer through geopolitical uncertainties, finds Anindya Banerjee, Head of Commodities and Currencies at Kotak Securities.

The RBI has launched a series of measures to encourage FCNR(B) and NRE deposits. How has the response been so far? Have banks been able to mobilise the expected amount of foreign currency?

The trend is clearly indicating that the response will be much more than what the market was anticipating initially. The inflows can easily cross $70 billion or $80 billion and get closer to the magical number of $100 billion. I am not saying exactly $100 billion will come in, but it could get closer to that number.

Have these measures primarily attracted fresh deposits, or are they largely a shift of existing NRI deposits from one bank or scheme to another?

There will certainly be some switching in the nature of deposits. But it cannot be that the entire $70 billion, $80 billion or even $90 billion, if we reach that level, is simply switching of deposits. A fresh amount has also come in, and it is quite sizable.

The RBI has not yet given out a number on how much of the inflow is fresh. But if you look at the old structure, the interest-rate differential between rupee deposits and FCNR(B) dollar deposits was not attractive because banks had to bear the hedging cost. That naturally limited the flows.

Now that has changed. The rates being offered have become very attractive and, in some cases, are almost as good as rupee fixed-deposit rates.

What has made these deposits so attractive to NRIs?

Some banks are offering rates of around 7%. If someone is able to get funding at around 5.5%, there is a spread of roughly 150 basis points. On top of that, there is leverage.

If the leverage is six times, the return can become around 9%; if it is 10 times, it can become 15%. These kinds of structures are one reason why the flows have been quite strong.

For example, if somebody puts up $100, they could get $1,000 of exposure through leverage. That makes the structure particularly attractive.

Are the higher interest rates being offered by banks mainly funded by the regulatory concessions provided by the RBI, or are banks sacrificing part of their margins?

I don't think banks are necessarily sacrificing their margins. What has happened is that dollar fixed-deposit rates have effectively become equivalent to rupee fixed-deposit rates for banks and financial institutions.

Normally, that would not be the case because there is a hedging cost. If the rupee FD rate is 7% and the one-year hedging cost of USD-INR is, say, 4%, then ideally the dollar deposit rate should be around 3%.

But that is not the case now because the RBI is taking that risk. The depositor gives the dollars to the bank and the RBI takes the exchange-rate risk. That allows banks to offer almost the same rate on dollar deposits as on rupee deposits without having to sacrifice their margins.

How does the current response from NRIs compare with earlier special deposit windows offered by the RBI?

The situation is totally different from 2013. At that time, India was part of the so-called fragile five.

When you are investing in a debt product, you don't get the benefit of a structural growth story or a reform story. Those are more relevant to an equity investment. For a depositor, the important consideration is the safety or credit risk of the bank.

Indian banks are among the most sound financial institutions in the world. So NRIs have a high level of comfort on that front. I think this is a great opportunity, and it may be difficult to get this kind of opportunity to earn these kinds of yields in the future.

That is why many NRIs are taking advantage of it, particularly because the window effectively gives them an opportunity over a three-to-five-year period.

One of the objectives of the special window was to improve market confidence. Has it achieved that?

These measures have definitely boosted confidence. If you look at FDI flows, they have turned positive.

The measures taken by the RBI and the government on the debt front, including allowing greater access to foreign investors, are important for Indian bonds to become part of major global indices. Along with stability in the rupee, these measures have played a role in encouraging foreign investors to invest in Indian debt and equity markets.

What about India’s external position? Has the special window strengthened it?

The direct impact is on foreign-exchange reserves, as long as the RBI is mopping up those flows. The RBI is going to receive a substantial chunk of whatever fresh deposits come in.

The unofficial estimate is that close to $50 billion has come in already. With around one and a half months to go, we could easily see the number reach $80 billion or $90 billion. That would represent a substantial addition to the RBI's foreign-exchange reserves and would therefore have a positive impact on India's external position.

However, this is fundamentally a capital-account flow. It does not directly affect the current account. There is an indirect impact over the tenor of the deposit because the interest payments will eventually become a current-account outflow.

But that outflow will be spread over the next three to five years, so it is not an immediate concern.

The IMF expects India’s current-account deficit to rise to around 2% of GDP in FY27. Could the eventual interest outgo from these deposits add to the pressure?

A 2% current-account deficit would mean roughly $80 billion if we take a $4 trillion GDP number.

We could anticipate FCNR(B) flows of around $80–90 billion. Of course, the important question is how much of that is incremental and how much is simply rotation from existing schemes.

Even if we assume that 50% is fresh money, that would be around $40–45 billion. With FDI also turning positive, I think the funding of the current account is well taken care of.

So even if the current-account deficit rises because of oil prices, it should not be a major concern from a funding perspective.

Are we effectively buying time with this special window?

We already have enough reserves, so buying time is not the issue. What we are doing is building buffers so that if things get out of hand in the coming months, particularly in West Asia, and oil prices rise significantly — say to $150 or more — India can handle that pressure.

These are essentially safety measures against extreme volatility in the global environment.

That is very different from 2013. In 2013, India was in deep trouble and was part of the fragile five. The objective then was more about buying time and getting the house in order.

Today, it is more about using the tools available to us and building additional resilience.

What has been the impact of the FCNR(B) flows on the rupee?

The rupee has been stable. It went down to around 94 against the dollar and has now bounced back to around 95.30.

But the FCNR(B) flows, or the ECB flows resulting from the concessional scheme, do not directly affect the market. The money goes to the RBI.

It is when the RBI comes into the market and intervenes that these dollar flows enter the market.

I think that is why the RBI did not want to create a sharp decline in the rupee. The objective was to create stability in the currency.

With the global trade war going on, India does not necessarily want to have a very strong currency because that could hurt exporters. Inflation is not a problem at this point, so the RBI can afford to play the stable-rupee game rather than pursue a very strong rupee.

What, then, is the direct benefit of these measures for the Indian economy?

The biggest benefit is that they add to the RBI's dollar reserves and give the central bank more ammunition to intervene in the foreign-exchange market.

There are other effects, including an increase in banking liquidity, but the direct impact is on dollar availability. It creates a sudden influx of dollars into the system.

If, instead of coming through this route, $90 billion had flowed into the Indian debt market, the broad impact on dollar availability would have been similar.

But after three to five years, won't India also face an outflow when these deposits mature and interest has to be paid?

We have to be careful about extrapolating the current cycle three to five years into the future.

The global dollar cycle could be very different by then. The dollar is going through a rapid de-dollarisation phase. The US is also trying to become more producer-oriented rather than remaining primarily a consumer economy.

Over the next three to five years, there could be substantial dollar devaluation. So the global cycle may change significantly.

Even in 2013, the RBI made handsome profits from its transactions. We should therefore not assume that the current environment will simply continue unchanged. There are many other factors at play, and the cycle could flip from a strong dollar to a weak dollar.

Was it actually necessary to raise NRE and FCNR deposits when India already had a relatively comfortable forex position?

Standing at that point in time, when it was still unclear how the situation in West Asia would evolve, I think it was important.

You have to make the best decision based on the information available at that time. The RBI took the right call.

There is no harm in having a few extra dollars at your disposal. If things go wrong globally, you have an additional cushion. You cannot create that cushion at the moment when the crisis has already arrived.

So, ultimately, how would you describe the RBI’s special deposit window?

I would describe it as a safety measure. It is about building an additional cushion and giving the RBI more dollars at its disposal.

The key difference from 2013 is that India is not in a crisis today. The country already has substantial reserves. The special window is about strengthening those buffers and ensuring that India has more tools available if global volatility or geopolitical risks intensify.

As I would put it: always take insurance when the insurance is available.