On June 5, 2026, the Reserve Bank of India announced it would absorb the full cost of currency hedging on fresh Foreign Currency Non-Resident (Bank) deposits with 3-5 year tenors until September 30, 2026.
By eliminating this expense, the RBI created an immediate arbitrage opportunity that banks are rushing to exploit.
The policy targets a specific problem: FCNR inflows had plummeted from over $7 billion in FY25 to just $946 million in FY26. At the same time, the rupee has been under pressure, depreciating 1.1% against the US dollar since the start of FY 2026-27 and 5.3% since the outbreak of the West Asia conflict. The RBI needs foreign currency inflows to stabilize the rupee and build up forex reserves, and FCNR deposits represent the most reliable source of long-term foreign capital—not hot money that can leave overnight.
The impact on India's Certificate of Deposit market has been immediate and dramatic. Banks haven't issued any CDs in the three trading sessions through July 2, 2026, according to data from The Clearing Corporation of India Ltd. This follows a broader decline in issuance, with banks raising ₹708 billion ($7.4 billion) between June 16 and June 29, down from about ₹1 trillion raised in the first half of the month.
More telling is the year-over-year comparison: CD issuance in the second half of June was 19% lower than the ₹872 billion raised during the same period in 2025. This decline is particularly significant because banks typically increase short-term funding toward quarter-end to strengthen their balance sheets. The fact that issuance dropped despite this seasonal pattern underscores how powerfully the RBI's policy has influenced bank behavior.
The cost of borrowing through CDs has already declined sharply, with the rate on one-year CDs easing to 6.84% from a more than two-year high of 7.96% in May. That's a 112 basis point reduction in just weeks, driven entirely by banks anticipating cheaper foreign-currency funding and reducing their reliance on domestic wholesale funding.
Banks are now offering up to 7.75% on foreign-currency deposits with 3-5 year maturities. On the surface, this appears higher than the current 6.84% CD rate, but the comparison requires deeper analysis. The 7.75% FCNR rate comes with 3-5 year tenure, providing substantial duration benefits compared to 1-year CDs that require frequent rollover.
More importantly, the RBI's absorption of hedging costs represents a massive subsidy. Previously, the effective cost of FCNR deposits was 7.5-8.5% when including the 3% annual hedging expense. Now, banks can access 3-5 year money at 7.75% with zero hedging costs—a significant improvement over both historical FCNR funding and current short-term CDs when adjusted for tenure benefits.
Industry estimates suggest the banking sector could attract between $35 billion and $50 billion through this scheme. This isn't just about cheaper funding—it's about fundamentally reshaping bank balance sheets with more stable, longer-term liabilities that better match the duration of their loan assets.
Major banks are already pivoting aggressively to this new funding source. Axis Bank Ltd. Chief Executive Officer Amitabh Chaudhry announced plans to use foreign-currency deposits raised from the Indian diaspora to replace expensive funds in the coming months. This represents a strategic shift from volatile short-term wholesale funding to stable foreign-currency deposits.
Anshul Chandak, Head of Treasury at RBL Bank Ltd., expects CD issuances to remain subdued through July-September on expectations of foreign-currency deposit flows. He anticipates CD rates will stabilize and potentially harden from September only if the RBI uses tools to aggressively suck out liquidity.
Alok Singh, Head of Treasury at CSB Bank Ltd., characterizes foreign-currency deposits as "a more stable, permanent cash flow" compared to traditional wholesale funding. This assessment fundamentally changes how banks approach liability management, as these deposits provide predictable cash flow patterns and reduced refinancing risk.
The shift from short-term CDs to longer-duration FCNR deposits significantly alters the maturity profile and interest rate risk exposure of Indian banks' balance sheets. Extending liability duration from 1-year CDs to 3-5 year FCNR deposits reduces repricing risk and earnings volatility, while providing natural hedges against rising interest rates.
This transformation also affects net interest margins. CSB Bank Ltd. projects CD rates could fall by an additional 20-25 basis points from current levels. For banks with significant CD exposure, this could translate to 8-12 basis point NIM improvement industry-wide. Banks that successfully mobilize FCNR deposits may see even greater benefits through better asset-liability matching and reduced refinancing costs.
However, the reduction in CD issuance during quarter-end periods—typically used to strengthen balance sheets—raises questions about banks' ability to fund loan growth that has consistently outpaced deposit mobilization for three consecutive quarters. The success of this funding transition hinges on whether the anticipated $50 billion in FCNR deposits actually materializes.
The RBI's hedging cost support is temporary, available only until September 30, 2026. This creates uncertainty about post-September funding strategies. Banks must plan for the end of RBI support while simultaneously maximizing FCNR mobilization during the available window.
There's also significant risk if FCNR deposit flows underperform the $50 billion expectation. A moderate shortfall of $25-30 billion would require ₹1-1.5 trillion in additional CD issuance, potentially pushing rates up 40-60 basis points. A severe shortfall could trigger rate increases of 100-150 basis points, reversing much of the funding cost benefits banks are currently anticipating.
Competitive dynamics are also shifting. Banks with strong NRI networks and international presence—like Axis Bank Ltd.—have significant advantages in mobilizing FCNR deposits. This could create a tiered competitive structure where FCNR-successful banks achieve funding cost leadership while FCNR-challenged banks face relative disadvantages. The result could be persistent NIM divergence and gradual market share reallocation.
The immediate future through September appears clear: CD issuances will remain subdued, rates may decline further, and banks will aggressively pursue FCNR deposits. The bigger question is what happens after September when the RBI's hedging cost support ends.
Banks that successfully navigate this transition will emerge with more resilient balance sheets, improved profitability, and enhanced competitive positions. Those that fail to mobilize adequate FCNR deposits may find themselves scrambling to re-enter CD markets at potentially much higher rates.
The RBI's foreign-currency deposit initiative represents more than just a temporary funding fix—it's a test of whether Indian banks can fundamentally restructure their funding profiles toward greater stability and lower costs. The next few months will reveal whether this gamble pays off or creates new vulnerabilities in the banking system's funding architecture.
