State Bank of India has so far raised more than $1.5 billion from foreign-currency deposits under a special facility launched last month for overseas citizens.
SBI and other Indian banks are trying to attract more money from Indians living abroad by offering attractive returns on foreign currency deposits.
Recently, the Reserve Bank of India has subsidized the plan and banks are offering high interest rates upto 7.5% to depositors. In June, the RBI offered full hedging-cost support for banks raising three to five year foreign currency deposits, as part of broader efforts to shore up reserves amid the US-Iran war.
Hedging means protection against currency rate changes. For example, if the dollar becomes more expensive against the rupee, a bank may suffer a loss. Banks use financial contracts to protect themselves from this risk, but this protection has a cost called hedging cost.
In this case, RBI offered to bear/support the hedging cost for banks on eligible 3- to 5-year foreign currency deposits. This reduced the cost for banks and helped them offer higher interest rates to overseas depositors.
What this means?
Suppose an Indian is working in Dubai, Singapore, London or another foreign country and earns money in dollars, pounds or another foreign currency. Instead of converting that money into Indian rupees and depositing it in India, the person can keep the money in India in a foreign currency deposit.
One such deposit is an FCNR deposit. FCNR means Foreign Currency Non-Resident deposit. It allows eligible non-resident Indians to keep fixed deposits with Indian banks in specified foreign currencies.
For example, a person living abroad may have $100,000. The person can place this money in an FCNR deposit with an Indian bank. The deposit remains denominated in foreign currency instead of being converted into rupees.
What is SBI offering?
SBI is a huge bank and needs deposits so that it can provide loans to customers. So, SBI is planning to provide high interest rate on deposits to attract overseas Indians. If SBI will provide high interest rate, then overseas Indians may deposit their money in SBI.
As per sources, State Bank will provide leverage of nine times to depositors. What this means? In simple words, it means depositors invest their own money and can borrow nine times more from a bank overseas at a comparatively lower rate.
They can then deposit the full amount in India, earning more on the deposits than they pay on the borrowed funds.
9 times borrowing means a depositor can borrow nine times their own money from an overseas bank. For example, if an NRI has ₹10 lakh, they may borrow ₹90 lakh and invest a total of ₹1 crore in the deposit. If the Indian deposit gives 7.5% interest and the overseas loan costs only 5%, the depositor may earn from the difference in interest rates. This use of borrowed money to make a bigger investment is called leverage.
There are around 35 million overseas Indians and Banks want to garner deposits from them. They’re also expanding marketing efforts and deploying relationship managers in key expatriate markets such as the Middle East, Singapore and London.
How will it work?
Suppose an NRI living in Dubai has $100,000 of their own money. The person approaches a bank overseas and gets additional borrowed funds under a leverage arrangement.
For easy understanding, suppose the person borrows $900,000. The person now has: Own money: $100,000 + Borrowed money: $900,000. So Total money is $1 million.
The person may then place the $1 million in an eligible foreign currency deposit with an Indian bank. Suppose, only as a simple example, the deposit earns 7.5% interest.
A 7.5% return on $1 million is $75,000 for a year. Now suppose the person pays a lower interest rate on the $900,000 borrowed from the overseas bank. If the total interest and other costs paid on the borrowing are lower than the income earned from the deposit, the difference may be a profit for the depositor. This is why the arrangement may look attractive to some wealthy overseas customers.
