Banks Expected to Replace High-Cost Deposits with Overseas Funds as RBI Incentive Boosts Foreign Currency Inflows

India's banking sector could witness a significant improvement in funding conditions over the coming months as banks increasingly tap Non-Resident Indian (NRI) foreign currency deposits following a recent policy initiative by the Reserve Bank of India (RBI).

According to Axis Bank Managing Director & CEO Amitabh Chaudhry, lenders are likely to use the inflow of overseas deposits to replace expensive domestic funding, improve profitability, and subsequently support lending to infrastructure, commercial real estate, data centres and large corporate capital expenditure projects.

The development comes at a time when Indian banks are facing mounting pressure from rapid credit growth, which has significantly outpaced deposit mobilisation, pushing funding costs higher across the banking system.

RBI's New Policy Lowers the Cost of Raising Overseas Funds

The RBI recently introduced a special facility under which it will absorb the hedging costs incurred by banks while mobilising foreign currency deposits from NRIs.

Normally, banks raising dollar deposits need to hedge against currency fluctuations, adding significantly to their funding costs. By taking over a substantial part of these hedging expenses, the central bank has made overseas fundraising considerably more attractive.

The initiative is expected to:

• Encourage banks to raise more foreign currency deposits.

• Increase foreign capital inflows into India.

• Support the Indian Rupee.

• Improve banking system liquidity.

• Lower funding costs for lenders.

According to market estimates, the scheme has the potential to attract nearly US$50 billion in additional overseas deposits over the coming months.

Banks to Reduce Dependence on Expensive Domestic Deposits

Speaking in an interview with Bloomberg, Amitabh Chaudhry said banks are unlikely to immediately deploy fresh overseas deposits into new lending.

Instead, their first priority will be to optimise their liability mix by replacing expensive domestic deposits.

"The first thing banks will do is reduce or pause growth in other very expensive deposits for some time."

Lower-cost funding is expected to improve banks' Net Interest Margins (NIMs), enhance profitability and provide greater flexibility in pricing loans.

Funding Pressure Has Been Building Across the Banking Sector

Over the past year, Indian banks have experienced one of the strongest credit growth cycles in recent years.

According to RBI data:

The faster pace of lending compared to deposit mobilisation has resulted in a widening Credit-Deposit (CD) Ratio, forcing banks to compete aggressively for customer deposits.

To meet liquidity requirements, several lenders have issued short-term Certificates of Deposit (CDs) at elevated interest rates.

In March, three-month CDs were issued at yields as high as 7.525%, highlighting the increasing cost of raising funds in the domestic market.

The RBI's latest move is expected to ease these pressures significantly.

Where Will the Fresh Funds Be Deployed?

Once banks improve their funding profile, they are expected to channel capital into sectors witnessing robust investment demand.

According to Axis Bank, some of the immediate beneficiaries could include:

Infrastructure

Government-led infrastructure development continues to generate strong financing requirements across roads, railways, airports, ports and energy projects.

Data Centres

India's digital economy is driving substantial investment in hyperscale data centres, cloud infrastructure and AI-enabled computing facilities.

Commercial Real Estate

Demand for Grade-A office space, logistics parks and warehousing continues to attract institutional investment.

Manufacturing & Corporate Capex

Large corporates are increasingly announcing fresh capital expenditure plans supported by India's manufacturing push and Production Linked Incentive (PLI) schemes.

Gulf Region Expected to Lead NRI Deposits

Axis Bank expects the majority of fresh foreign currency deposits to originate from:

• Gulf Cooperation Council (GCC) countries

• Southeast Asia

• Other regions with large Indian expatriate communities

The Gulf continues to remain India's largest source of inward remittances, making it a natural market for foreign currency deposit mobilisation.

Positive Implications for Banking Stocks

The RBI's policy announcement has already improved investor sentiment toward banking stocks.

Investors expect several benefits:

• Lower cost of funds

• Improved Net Interest Margins (NIMs)

• Better earnings growth

• Enhanced liquidity

• Stronger balance sheets

• Greater lending capacity

Private sector banks with strong NRI banking franchises could emerge as the biggest beneficiaries if deposit inflows materialise as anticipated.

Axis Bank Strengthens Its Digital Strategy

Beyond improving funding efficiency, Axis Bank is also accelerating investments in technology.

CEO Amitabh Chaudhry revealed that approximately 15% of the bank's technology budget for the current financial year has been allocated towards Artificial Intelligence (AI) initiatives.

The bank believes AI will significantly enhance:

• Customer acquisition

• Fraud detection

• Credit underwriting

• Personalised banking

• Workforce planning

• Operational efficiency

To strengthen its AI capabilities, Axis Bank has also appointed a dedicated Chief AI Officer, reflecting the increasing importance of artificial intelligence in India's financial services industry.

Axis Bank's Transformation Under Amitabh Chaudhry

Since assuming leadership in January 2019, Amitabh Chaudhry has overseen several strategic initiatives that have strengthened Axis Bank's competitive position.

Key achievements include:

• Acquisition and integration of Citigroup India's consumer banking business.

• Expansion of digital banking platforms.

• Significant investments in technology infrastructure.

• Enhanced retail banking capabilities.

• Focus on customer-centric innovation.

Today, Axis Bank manages assets exceeding ₹18 trillion, making it India's third-largest private sector bank after HDFC Bank and ICICI Bank.

Industry Outlook

India's banking sector is entering a phase where access to diversified funding sources will become increasingly important.

With credit demand expected to remain robust, banks must continue strengthening their liability franchise while maintaining healthy margins.

The RBI's foreign currency deposit initiative could emerge as one of the most significant liquidity-support measures in recent years. If successful, it may not only improve banking profitability but also provide additional financing capacity for India's ambitious infrastructure and manufacturing growth plans.

However, banks will continue monitoring global interest rates, currency volatility and overseas investor appetite before aggressively expanding foreign deposit mobilisation.

Key Takeaways for Investors

• RBI's new policy lowers the cost of overseas fundraising.

• Banks may replace expensive domestic deposits with cheaper NRI deposits.

• Funding costs are expected to decline over the coming quarters.

• Improved liquidity could support higher corporate lending.

• Infrastructure, manufacturing and commercial real estate may benefit.

• Banking sector profitability could improve through stronger Net Interest Margins.

• Private banks with strong NRI franchises may be among the biggest beneficiaries.