The foreign currency non-resident (bank), or FCNR(B), deposit scheme, launched to support the rupee and bridge the balance of payments deficit, is also expected to ease banks’ funding pressures amid sluggish deposit growth. Many lenders have, therefore, aggressively priced these deposits, with some offering rates higher than those on comparable domestic deposits.

Punjab National Bank for instance, is offering 6.5 % on five-year FCNR(B) deposits, compared with 6.35 % on domestic deposits. Union Bank of India offers 6.2-6.6 % on dollar deposits with tenures of three to five years, versus 6.0-6.1% on domestic deposits. Similarly, Canara Bank pays 6.5 % on FCNR(B) deposits for three to five years, compared with 6.25 % on domestic deposits.

Among smaller private sector lenders, Karur Vysya Bank, CSB Bank and South Indian Bank are also offering higher rates on FCNR(B) deposits than on domestic deposits.

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The Reserve Bank of India is bearing the full hedging cost, enabling banks to pass on the benefit to depositors.

“Public sector banks have seen faster credit growth, but private banks have attracted deposits at a higher rate. This is also evident in their recent business updates. In short, incremental deposit flows are favouring private banks over public ones,” said Saurabh Bhalerao, director at CareEdge Ratings.

Public sector banks reported deposit growth of 11.54% year-on-year in the first quarter, while private banks recorded 13.77 % growth, according to business updates from 10 public sector and 15 private sector banks.

According to the latest RBI data, bank credit grew 18.6 % year-on-year in the fortnight ended June 30, compared with deposit growth of 13.3 %.

“If banks are offering higher rates on FCNR(B) deposits than on domestic deposits, it indicates they are keen to mobilise more deposits. Besides, the RBI is absorbing the hedging cost, which means these deposits effectively behave like domestic deposits for banks as they carry no currency risk,” Bhalerao added.

“If I raise rupee deposits at 6 %, after accounting for CRR and SLR, my effective cost rises to around 6.45-6.50 per cent. With no CRR and SLR requirement on FCNR(B) deposits, I can offer around 6.25-6.30 %. Whether banks eventually price foreign-currency deposits above rupee deposits depends on how desperate they are for funding,” said a senior official at a small private bank.

The RBI has also temporarily removed the interest-rate ceiling on FCNR(B) deposits, allowing banks greater flexibility to offer higher rates. Earlier, FCNR(B) deposit rates were capped at the applicable benchmark rate plus 350 basis points.

A senior executive at a large public sector bank said higher rates should help attract dollar deposits through the interest-rate differential, though mobilising domestic deposits would remain challenging.

“Even at the same nominal rate, domestic deposits are more expensive because interest is compounded quarterly, whereas FCNR(B) deposits are compounded half-yearly. In addition, the exemption from CRR and SLR lowers the effective cost of FCNR(B) deposits by around 25-30 basis points. So, a 6.40 % FCNR(B) deposit works out to an effective cost of about 6.10 %,” the banker said. 

Rohan Mandora, director at Equirus Securities, said banks are actively promoting FCNR(B) deposits because funding conditions remain tight.

“Competition has pushed FCNR(B) rates higher, but they are still cheaper than bulk deposits, for which banks had been paying more than 7 per cent,” he said.

Banks had increasingly relied on certificates of deposit and institutional deposits in recent quarters as retail deposit growth lagged credit demand, pushing up funding costs. However, those rates have eased following the RBI’s latest measures.

Mandora said the higher FCNR(B) mobilisation is unlikely to hurt banks’ margins. “Margins have probably bottomed out in the first quarter and should remain stable or gradually improve from here,” he said. 

Bankers estimate FCNR(B) inflows could exceed $50 billion under the scheme. However, inflows have yet to gather momentum as the arbitrage remains unattractive, with foreign banks offering relatively higher rates. While the spread earlier stood at 80-100 basis points above benchmark rates, it has now widened to 100-150 basis points or more, they said. 

Banks may raise FCNR(B) rates further depending on the response. With the scheme remaining open until September, they expect inflows to gather pace in the coming weeks.