FCNR inflows may delay rate hikes, but banks face margin pressure: Report
Foreign currency inflows have eased financial conditions for the Reserve Bank of India. This temporary relief allows the central bank to delay interest rate hikes. However, rising inflation and global interest rates present renewed risks. Increased liquidity has boosted credit growth, but it is mostly for short-term needs. Systematix expects this calm to be fragile amid future economic pressures.
New Delhi: According to a Systematix research report, the Reserve Bank of India's FCNR inflows have temporarily eased financial conditions, potentially delaying rate hikes, but this benefit may be short-lived. The report highlights the yield curve has been steepened by FCNR(B) inflows, bringing the five-year government bond yield down to 6.47 per cent, while the 10-year yield remains more stable at 6.85 per cent.
Systematix predicts a possible 125-basis-point rate hike, bringing the policy rate to 6.5 per cent, and anticipates a bearish flattening in the yield curve. Factors such as inflation nearing 6 per cent in the second half of FY27, higher global interest rates, and renewed rupee weakness could reverse the current easing in financial conditions.
Liquidity growth appears to be driven largely by companies meeting short-term working-capital requirements rather than a significant resurgence in private capital expenditure. While banks have benefited from increased liquidity, net interest margins and returns on assets are moderating, as interest income is growing at 6-8 per cent compared to credit growth of around 18 per cent.
The mismatch in assets and liabilities, with FCNR(B) funds raised for three to five years and much of the lending it supports being short-term, creates a negative term spread. Systematix sees the temporary liquidity boost facing pressure as inflation and global rates rise, and believes the FCNR inflows will not generate a sustained investment cycle unless private capital expenditure picks up.
Written by urgent.news from The Economic Times - Economy's reporting — not their text. Machine-written — may contain errors; check the original before relying on it.
