Closing the FCNR(B) scheme has led to a noteworthy increase in dollar inflows, which has positively impacted foreign exchange reserves. Indian banks have benefited from these substantial funds, assisting in the continued growth of loans. Nonetheless, the Reserve Bank of India must now tackle the critical issue of managing surplus liquidity efficiently.
The foreign currency non-resident (bank) or FCNR(B) scheme closed in August after beating Street estimates with a bumper accretion of $127.2 billion, with flows almost doubling in the last 10 days of the scheme to take the total inflows from such special schemes so far to $136.4 billion. Brokerages expect this to boost the balance of payments surplus and support loan growth momentum for Indian banks.
FCNR(B) deposits accounted for over 93% of the total dollar inflows, with banks adding the most dollars to the kitty, in the last ten days resulting in a strong close to the special window, according to provisional data released by the RBI. This came after the Indian central bank advanced the timeline for banks to accept incentives-laden FCNR(B) deposits by a month to August 31 noting the strong inflows through the scheme. The swap scheme for ECBs and OFCBs will run until December 31, 2026.
The scheme was launched in June to boost dollar inflows and strengthen foreign exchange reserves, allowing banks to swap eligible overseas borrowings with the central bank at concessional rates, significantly lowering their cost of funds.
Bumper finale to FCNR(B) scheme gives forex firepower to RBI
Nomura noted that the bumper finale to the FCNR(B) scheme has given the RBI ample foreign exchange reserves firepower, adding that the challenge now is how it will mop up the surplus liquidity. It expects this to boost the balance of payments surplus to $66 billion in FY27 from a deficit of $23.6 billion in FY26.
Motilal Oswal Financial Services meanwhile said that the record high FCNR(B) inflows have backed its estimates of a 150 bps increase in system credit growth to 15.5-16% for FY27. It noted that ICICI Bank mobilised $17.9 billion, capturing 14% market share of the total FCNR(B) inflows. SBI has garnered $9 billion a few days prior to the close and is expected to beat its $10 billion guidance. RBL Bank has added $3.4 billion, capturing 2.7% share, better than its deposit market share of nearly 0.5%.
“FIIs, who were on a selling spree before the FCNR(B) deposit scheme, have added net inflows of $4.8b in the last two months, while INR depreciation against USD has also stabilized,” Motilal noted. While net interest margins are expected to be under pressure in the near term on account of limited spread on the overseas leveraged portion of FCNR(B) deposits, the deployment of these deposits and an improving asset mix will drive faster balance sheet growth and support earnings, according to the domestic brokerage.
Mopping up surplus liquidity to be a challenge
Nomura highlighted that on the liquidity front, the RBI faces the issue of plenty, as banks that successfully garnered dollars through the scheme, now have surplus liquidity. While some of the surplus banking liquidity will be offset by higher cash in circulation during the upcoming festive season, maturity of forwards, and due to any potential RBI FX intervention (dollar selling), the RBI may have to employ liquidity absorption tools to mop up this surplus, it added.
These tools include continue longer-term variable rate reverse repo (VRRR) operations, incremental cash reserve ratio (iCRR) hike imposed for 2-3 months, and sell-buy swaps, according to Nomura. A durable CRR hike or OMO sales would be more disruptive, according to the brokerage. “Managing liquidity while keeping monetary policy signals intact will be a challenge going into the October meeting, where our base case is a policy hold, although the meeting remains live,” it added.
Which bank stock to buy?
Overall, Nomura noted that Q1 FY27 showed sustained system credit growth momentum over and above a strong Q4 FY26, notwithstanding seasonal weakness. It expects loan growth momentum to continue through the first half of the ongoing financial year on the back of strong demand, support from FCNR deposits and a favorable base, before gradually moderating to 15% YoY by FY27.
Nomura prefers ICICI Bank and Kotak Mahindra Bank among large banks, and IDFC First Bank, Federal Bank and IndusInd Bank within mid-tier banks. It however excluded HDFC Bank from its preferred picks largely on account of succession overhang.
Motilal Oswal meanwhile named ICICI Bank, SBI, Kotak Mahindra Bank and AU Small Finance Bank as its top picks in the sector. Bank stocks remained in the green on Thursday, with Nifty Bank index rising nearly 1%, led by gains in IndusInd Bank, Yes Bank and ICICI Bank, each of which were up around 2%.
