Banks to roll out upfront loans this week; move could avoid the need for a sovereign bond or special govt-backed deposit schemes to attract dollar inflows

Singapore: Foreign banks will provide upfront financing for wealthy non-resident Indian (NRI) clients to entice them to place bulky dollar deposits back home in response to India’s drive for dollar FUNDING to defend its weak CURRENCY, sources told Reuters.

This would resurrect a practice which proved successful in drawing in dollars from NRIs in 2000, when the rupee was also under pressure, and the sources said banks could raise about $10 billion or more.

Foreign banks will FINANCE the bulk of these dollar deposits. This is likely to be welcome news for Indian authorities because it could avoid the need for a sovereign bond or special government-backed deposit schemes to attract dollar inflows to support the rupee.

Banks, including Citi, DBS and Standard Chartered Bank, are offering the terms to the richest segment of their private banking clients by providing roughly 90% of the foreign currency deposit placed in India, four private banking persons said.

The banks will officially roll out the upfront loans this week, the persons said.

“Client equity in these deposits is just 10% and the client effectively makes between 18% and 21% on the dollars,” said a private banker with a European bank.

The scheme is a variation of the foreign CURRENCY non-resident bank account (FCNR), which are term deposits NRIs can maintain in five currencies, including US dollars, euros and pounds, at banks onshore and earn a fixed rate of interest.

As part of efforts to rescue the rupee as it sank towards record lows near 69 per dollar in late August, the Reserve Bank of India (RBI) freed interest rates on FCNR deposits last month.

It allowed banks to offer as much as 400 basis points over the London interbank offered rate (Libor) for deposits with maturities between three years and five years. It exempted these deposits from statutory bank reserves.

To incentivize banks, RBI also offered to swap FCNR deposits of maturities above three years into rupees at a fixed rate of 3.5%, less than half the prevailing MARKET levels. That swap window is available until 30 November.

Leverage

INVESTORS need to have just 10% of the amount of deposit they intend to place, and can earn nearly 20% on their dollars.

Foreign banks can earn 3-4 percentage points over Libor for their dollars, while local banks in India can swap those dollars into rupees more cheaply than MARKET rates using the central bank swap window.

Banks, both foreign banks with presence in India and local ones, have made a huge push TO RAISE MONEY from India’s vast diaspora since RBI relaxed rules on FCNR deposits. The FCNR deposits can be used as collateral to borrow overseas.

The difference in the new upfront FINANCING scheme is that the banks pool their resources with non-residents and place deposits in India, thus creating bigger deposits with each new account.

One private banker with an American bank said the practice had been prevalent in the 1980s and 1990s and widely used by banks in 2000, when they raised $5.5 billion through an India Millennium Deposit scheme.

One person at a European bank said banks were cherry-picking clients for this product.

“For every billion dollars I place in India, the bank has to FUND $900 million,” he said. “We can’t allow just any customer to piggyback on us, only a hand-picked few.”

Still, bankers said the scheme was not without hurdles.

For one, the effective cost of the rupee funds would be about 8.5-9%, he said, which limited the INVESTMENT options. Ten-year rupee government bonds yield 8.5%.

Secondly, there were unresolved issues of how much credit exposure foreign banks wanted to take on their India branches, and who would place the collateral for the loans and take the risk of premature withdrawal of the deposit by the NRI.

Lastly, INVESTORS placing millions of dollars would need assurance that their money could eventually be repatriated, without the risk of capital controls. One European bank was already offering insurance against this risk, for a price, the private bankers said. Reuters