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NRE deposits rise at cost of dollar deposits

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Parnika Sokhi Mumbai

While inflows in Non-resident (External) Rupee accounts (NRE) have increased on the back of higher interest rates, the funds in foreign currency non resident (FCNR) and Non-Resident Ordinary Rupee (NRO) accounts have been falling because of the interest rate differential.

The Reserve Bank of India (RBI) has deregulated NRE deposits and banks can now offer interest rates on NRE deposits on par with domestic deposits of same maturity. Interest rates on NRE accounts have increased by 500-600bps since the announcement made on December 16, 2011. Interest rates on FCNR dollar deposits that are still regulated are around 2-2.5 per cent, while banks are taking NRE deposits at 9-10 per cent.

 

Bankers said that the flows have been encouraging so far. However, it is largely in the form of shift in preference from FCNR and NRO accounts. “I doubt there has been fresh accretion, as the deposits are being converted from foreign currency accounts to rupee accounts,” said a senior treasury official from a foreign bank.

A senior official of a large public sector bank concurred. “In aggregate, there has been a dip in the foreign currency and NRO accounts.” He added that some premature withdrawal pressure on FCNR accounts could not be ruled out.

Bankers have suggested to the central bank that deregulation be allowed in foreign currency accounts, too. However, the central bank is not believed to be convinced with the idea, as higher accretion in FCNR deposits would only increase forex liability of Indian banks.

“For a passive NRI investor, the USD return will be 4.0-4.5 per cent on a fully hedged basis, with 12 months forex premium at 5.0-5.5 per cent,” said Moses Harding, head of economic and market research at IndusInd Bank. For an aggressive investor, the return may be higher if the exchange rate risk is kept open, he added.

While funds can be transferred from foreign currency accounts into NRE accounts, the same cannot be followed for NRO accounts. In case of NRO accounts, fresh flows have been diverted. “We have seen a shift in remittance flows from NRO to NRE accounts after the interest rates on the latter were increased,” said V A Joseph, MD & CEO of South Indian Bank. The bank has raised rates twice since deregulation.

“Flows are largely from the US, Europe and the Gulf. However, high net worth NRIs are largely from the US and Europe,” said Moses Harding, head of economic and market research at IndusInd Bank.

If this continues, it may put redemption pressure on banks as people would withdraw prematurely from FCNR accounts to take advantage of higher interest rates in NRE accounts. “Converting the existing NRE/FCNR deposits will lead to loss of interest for period of investment. If the loss on account of premature closure is compensated on the new deposits, there will be pressure on premature closure,” said Harding.

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First Published: Jan 13 2012 | 12:42 AM IST

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