Subject: Banking Regulations

Why in the News?

The RBI has allowed banks to raise fresh 3-5 year Foreign Currency Non-Resident (Bank) [FCNR(B)] deposits from NRIs and deposit the money with the RBI under a special scheme until September 2026. The RBI will bear the cost of protecting banks from exchange rate fluctuations (hedging cost), making it cheaper and more profitable for banks to attract foreign currency deposits. The objective is to encourage more NRI dollars to flow into India and strengthen foreign exchange inflows.

What are FCNR(B) deposits?

1. They are fixed-term foreign currency deposits offered by Indian banks to Non-Resident Indians (NRIs) and Overseas Citizens of India (OCIs). 
2. They allow depositors to maintain savings in designated foreign currencies without converting funds into Indian rupees. 
3. The RBI’s latest swap facility seeks to strengthen the attractiveness of these deposits and support India’s external financing requirements.

What is the US Dollar-Rupee Forex Swap Facility for FCNR(B) Deposits?

The Reserve Bank of India (RBI) introduced a special US Dollar-Rupee Forex Swap Facility to help banks mobilize fresh Foreign Currency Non-Resident, or FCNR(B) deposits. By bearing the hedging costs, the RBI enables banks to offer higher interest rates to NRIs without the currency risk. 

Key details of the scheme include:

1. Eligible Depositors: Available to Non-Resident Indians (NRIs) and Overseas Citizens of India (OCIs).
2. Deposit Tenure: 3 to 5 years. 
3. Deposit Currency: Mobilized in any freely convertible currency, but the swap must be done in US Dollars.
   1. Foreign Currency Denomination: Maintains deposits in: US Dollar (USD), Pound Sterling (GBP), Euro (EUR), Japanese Yen (JPY), Australian Dollar (AUD), and Canadian Dollar (CAD)
4. Swap Rate: Undertaken “at par” (the RBI will buy USD at the FBIL Reference Rate and later sell it back at the same rate). 
5. Timeline: Valid for deposits mobilized between June 8, 2026, and September 30, 2026. The swap window remains open to banks until October 16, 2026.
6. Lock-in Period: Underlying deposits are subject to a 1-year lock-in period; however, the swaps undertaken with the RBI cannot be canceled. 
7. Availability: Authorised Dealer Category-I banks can avail of this facility once a week.
8. Exchange Rate Protection: Eliminates currency conversion risk associated with rupee deposits.
9. Tax Benefit: Interest income remains exempt from Indian income tax while the depositor qualifies as a non-resident.
10. Benchmark-Based Pricing: Interest rates are linked to internationally accepted benchmark rates.

Why Has the RBI Reintroduced the FCNR(B) Swap Facility?

1. External Sector Support: Facilitates mobilisation of stable foreign currency resources for the banking system.
2. Concessional Swap Facility: Allows banks to swap FCNR(B) deposits with RBI at favourable rates.
3. Hedging Cost Absorption: Transfers the foreign exchange hedging burden from banks to RBI.
4. Capital Inflow Potential: Estimates suggest potential mobilisation of an additional $50-70 billion.
5. Historical Policy Tool: Revives a mechanism previously used during periods of external vulnerability to strengthen foreign exchange inflows.

Why Have FCNR(B) Deposit Inflows Declined Sharply?

1. Collapse in Inflows: FY26 inflows declined by 86%, from $7.1 billion in FY25 to only $946 million.
2. Global Interest Rate Differential: US and other developed market interest rates remain above 4%, offering attractive alternatives.
3. Lower Domestic Offerings: FCNR(B) deposit rates remain significantly below comparable foreign currency investment products.
4. Competition from Foreign Banks: NRI investors can earn higher returns without country-specific risks in advanced economies.
5. Reduced Relative Attractiveness: Regulatory incentives alone may not offset yield differentials.
6. Outstanding Stock Pressure: Total FCNR(B) deposits stood at $33.8 billion by March-end.

Why Can Indian Banks Potentially Offer Higher FCNR(B) Rates Now?

1. Hedging Cost Relief: RBI absorbs the cost of managing exchange rate risk.
2. Margin Protection: Banks can increase deposit rates without significantly affecting profitability.
3. Funding Diversification: Expands access to overseas funding sources.
4. Improved Deposit Economics: Enhances viability of mobilising foreign currency deposits.
5. Reduced Foreign Exchange Exposure: Minimises direct hedging obligations for banks.

Why Are Banks Expected to Increase FCNR(B) Deposit Rates?

1. Competitive Necessity: Requires matching global deposit opportunities available to NRIs.
2. Yield-Based Decision Making: NRI investors are likely to compare returns across jurisdictions.
3. US Market Competition: Higher yields available in US dollar-denominated products.
4. Historical Evidence: FCNR(B) inflows have weakened significantly when global rate differentials widened.
5. Deposit Mobilisation Objective: Higher rates remain essential for attracting meaningful inflows.

What Are the Broader Macroeconomic Implications?

1. Foreign Exchange Reserve Support: Strengthens reserve adequacy through stable foreign currency inflows.
2. Balance of Payments Stability: Supports financing of current account requirements.
3. Exchange Rate Management: Enhances RBI’s ability to manage rupee volatility.
4. Banking Sector Liquidity: Expands long-term foreign currency funding.
5. External Vulnerability Reduction: Reduces dependence on volatile portfolio flows.

Conclusion

The RBI’s decision to revive the FCNR(B) swap window reflects its proactive approach to strengthening India’s external sector amid a challenging global interest rate environment. While the facility reduces costs for banks and can potentially attract additional foreign currency inflows, its success will ultimately depend on whether banks offer sufficiently competitive returns to NRIs. Sustained mobilisation of FCNR(B) deposits can enhance foreign exchange reserves, support balance of payments stability, and reduce vulnerability to volatile capital flows, thereby reinforcing India’s macroeconomic resilience.

Value Addition

FCNR(B) Deposits vs NRE Deposits vs NRO Deposits

Feature	FCNR(B)	NRE	NRO
Full Form	Foreign Currency Non-Resident (Bank) Account	Non-Resident External Account	Non-Resident Ordinary Account
Currency	Foreign Currency	Indian Rupee	Indian Rupee
Exchange Rate Risk	No	Yes	Yes
Repatriability	Fully Repatriable	Fully Repatriable	Limited Repatriability
Tax on Interest	Tax Exempt	Tax Exempt	Taxable
Depositor Eligibility	NRI/OCI	NRI	NRI

Importance of NRI Deposits for India

1. Stable Capital Source: Less volatile than Foreign Portfolio Investment (FPI) and other short-term capital flows.
2. Foreign Exchange Augmentation: Supports accumulation of Foreign Exchange (Forex) Reserves.
3. Banking Sector Funding: Provides long-term foreign currency liabilities to banks.
4. External Financing: Supports financing of the Current Account Deficit (CAD) and other external sector requirements.
5. Crisis Buffer: Acts as a source of foreign capital during periods of external stress and global financial uncertainty.

RBI Instruments for Managing External Sector Stability

1. FCNR(B) Swap Window: Mobilises foreign currency deposits from NRIs while reducing hedging costs for banks.
2. Foreign Exchange (Forex) Market Intervention: Stabilises excessive exchange rate volatility in the rupee.
3. Foreign Exchange Reserves: Provides a buffer against external shocks and capital outflows.
4. Monetary Policy Operations: Influences liquidity conditions, interest rates, and capital flows.
5. Macroprudential Measures: Manages systemic risks arising from volatile capital movements and financial market disruptions.