Indian banks are increasingly relying on foreign-currency deposits from non-resident Indians to bridge a widening gap between loans and deposits. With loan growth outpacing domestic savings, banks are seeking cheaper funding to replace expensive domestic certificates of deposit. This strategy, supported by RBI policy changes to lower hedging costs, aims to improve margins while securing capital for infrastructure and commercial lending.
What Happened
Indian banks are actively seeking foreign-currency deposits from the diaspora to solve a growing funding problem. For some time, loan growth in India has outpaced deposit growth, creating a liquidity squeeze. To manage this, banks are turning to foreign currency inflows from Non-Resident Indians (NRIs) as a way to replace costlier domestic funding sources, such as certificates of deposit (CDs), which have seen interest rates climb as high as 7.525% for three-month tenures.
The Reserve Bank of India (RBI) has played a role in this by easing the hedging costs for banks raising dollars overseas. Hedging is the cost banks pay to protect themselves against changes in currency exchange rates. By reducing these costs, the RBI has made it more affordable for banks to bring in foreign capital, which can then be used to fund domestic lending in sectors like infrastructure, data centers, and commercial real estate.
Why The Loan-Deposit Gap Matters
The core issue is that banks are lending money faster than they are collecting deposits from customers. When deposit growth lags behind loan growth, banks are forced to borrow more money from the market through instruments like CDs, which are more expensive than traditional savings or current account deposits. This puts pressure on a bank’s Net Interest Margin (NIM), which is the difference between the interest a bank earns on loans and the interest it pays on deposits. By shifting toward foreign-currency deposits, banks hope to lower their overall cost of funds and protect their profit margins.
Axis Bank’s Strategy and AI Push
Beyond funding, banks like Axis Bank are focusing on technology to stay competitive. Axis Bank CEO Amitabh Chaudhry has been emphasizing significant investments in digital platforms, particularly artificial intelligence (AI). The bank has allocated approximately 15% of its technology budget to AI, viewing it as a tool to improve customer acquisition and streamline internal planning. The appointment of a Chief AI Officer highlights the bank's attempt to use technology to gain an efficiency edge in a sector where customer acquisition costs are rising.
Risks of Relying on Foreign Capital
While foreign-currency deposits offer a cheaper source of funding, they come with unique risks for investors to track. Banks that rely on foreign inflows become more sensitive to global economic conditions and currency fluctuations. If the global interest rate environment changes or if the rupee experiences significant volatility, the cost of maintaining these deposits could rise, or the inflow could slow down. Investors should monitor how banks manage this currency risk and whether they can successfully lower their overall funding costs without taking on too much exposure to foreign market volatility.
What Investors Should Track Next
The most important monitorables for shareholders include the loan-to-deposit ratio of major banks and updates on NIMs in coming quarterly results. Investors should also watch for further commentary from bank management regarding the sustainability of these foreign deposit inflows and whether the cost-saving benefits actually improve profitability. Additionally, the impact of AI investments on operational efficiency and customer growth will be a long-term metric to evaluate, rather than an immediate driver of earnings.