FCNR Deposits: Who Bears Currency Risk?

UPSC Mapping

Prelims	Mains
NRI Deposits, RBI Swap and Forex Reserves	GS Paper III: Indian Economy and Banking

Article

What are FCNR Deposits?

FCNR Deposits are term deposits that eligible non-residents maintain with Indian banks in permitted foreign currencies. FCNR(B) stands for Foreign Currency Non-Resident Bank account. Banks denominate and repay both principal and interest in the chosen foreign currency.

The depositor avoids direct loss from rupee depreciation when funds return in the same currency. Ordinary accounts generally permit maturities from one to five years under RBI rules. The 2026 special swap covered fresh or renewed deposits with three-to-five-year tenors.

Why are FCNR Deposits in News?

On 8 June 2026 RBI introduced a special USD–INR swap facility to attract foreign-currency inflows. Banks mobilised about US$127.2 billion through FCNR Deposits by 31 August; total inflows under the wider facility reached about US$136.4 billion.

The strong response led RBI to close the deposit-linked window early on 31 August. Swap windows for eligible external and overseas bank borrowings continued separately. The RBI inflow data provides official mobilisation figures.

Key Features

The FCNR Deposits arrangement divides currency exposure among depositors, commercial banks and RBI.

• Foreign-currency denomination: Principal and interest paid in the deposit currency.
• Depositor protection: No direct rupee exchange risk for principal.
• Principal swap: Bank sells foreign currency to RBI and receives rupees under reversal terms.
• RBI risk absorption: Swap shifts rupee-dollar movement risk on eligible principal to RBI.
• Bank interest liability: Banks fund interest payments in foreign currency themselves.

A forex swap involves an initial exchange of dollars for rupees at a reference rate, and a predetermined reverse exchange at maturity. This allows banks to deploy rupee funds while RBI assumes the future reversal commitment and holds corresponding foreign assets.

Banks still manage deposit rates, premature withdrawals and asset-liability matching. The depositor’s claim remains on the commercial bank; RBI’s swap is a wholesale hedging mechanism.

For the economy, the inflow bolsters foreign-exchange buffers and banking-system liquidity, with separate RBI operations ensuring policy rate alignment. The 2026 facility’s three-to-five-year tenor and one-year lock-in aimed to stabilise funding profiles.

Challenges

Large inflows bring future obligations alongside immediate benefits:

• Interest exposure: Banks need foreign currency for coupon payments.
• Maturity concentration: Clustered repayments several years later.
• Liquidity surplus: Rupee release may complicate monetary transmission.
• Uncertain net cost: RBI’s outcome depends on swap pricing, asset returns and exchange-rate movements.
• Rollover dependence: Renewal cannot be assumed post-facility.

Banks must monitor balance-sheet positions, asset-liability gaps and prepare for future payments. Reserve growth must be assessed alongside reversal liabilities to gauge usable buffers.

Way Forward

Banks should disclose maturity buckets, interest exposure and hedge coverage; stagger asset maturities; and maintain liquid dollar resources. RBI supervision can test repayment readiness under adverse scenarios. Coordinated reserve investment, swap reversals and liquidity absorption should be guided by a transparent risk framework. The official swap circular underpins risk-allocation evaluation.

Prelims Practice Corner

Q1. What is the defining currency feature of an FCNR(B) account?

• (a) Principal only is held in rupees
• (b) Principal and interest are denominated in foreign currency
• (c) Interest is paid only in gold
• (d) Conversion into rupees is compulsory at maturity

Answer: (b) Both principal and interest remain denominated in the permitted foreign currency.

Q2. Under the 2026 special facility, eligible FCNR(B) deposits had which tenor?

• (a) Up to six months
• (b) One to two years
• (c) Three to five years
• (d) More than ten years

Answer: (c) RBI specified a minimum three-year and maximum five-year tenor.

Q3. In a USD–INR forex swap, which statement is correct?

• (a) Currencies are exchanged once only
• (b) Linked exchanges occur initially and at reversal
• (c) Banks receive no rupees
• (d) Depositors contract directly with RBI

Answer: (b) A swap combines an initial currency exchange with a contracted reverse exchange.

Q4. Who remains legally responsible for paying interest to the FCNR(B) depositor?

• (a) Commercial bank
• (b) Finance Commission
• (c) SEBI
• (d) Depositor’s foreign government

Answer: (a) The deposit is a liability of the commercial bank accepting it.

Q5. A large forex swap inflow can directly increase which domestic variable?

• (a) Banking-system rupee liquidity
• (b) Customs tariff rates
• (c) Agricultural acreage
• (d) State legislative seats

Answer: (a) RBI supplies rupees against foreign currency in the swap’s first leg.

Mains Practice Questions

Q1. Explain how the RBI’s special FCNR(B) swap allocates foreign-exchange risk among depositors, banks and the central bank. (250 words, 15 marks)

• Intro: Define FCNR(B) accounts and the two-leg USD–INR swap.
• Body: Cover depositor protection, principal hedging, bank interest liability, RBI exposure and asset returns.
• Conclusion: Stress transparent pricing and comprehensive balance-sheet risk management.

Q2. Foreign-currency deposit inflows can strengthen reserves while creating future macro-financial risks. Discuss. (150 words, 10 marks)

• Intro: Mention reserve and liquidity effects of foreign-currency inflows.
• Body: Examine maturity concentration, interest exposure, rollover risk, liquidity management and uncertain net costs.
• Conclusion: Recommend adequate buffers, staggered maturities and coordinated liquidity operations.

FAQs on FCNR Deposits

Who bears exchange risk on the deposit principal?

For principal covered by the special swap, RBI absorbs much of the rupee-dollar movement risk under contracted reversal terms. The commercial bank still owes the deposit to its customer.

Who bears the foreign-currency interest obligation?

The accepting bank must pay interest in foreign currency. It manages that exposure through assets, funding or separate hedges.

Does RBI’s hedging burden equal a final loss?

Not necessarily, because RBI receives foreign currency that can earn investment returns. The net financial outcome depends on swap pricing, asset earnings, tenure and exchange-rate movements.