Explained: Why RBI shut the FCNR(B) swap facility early

The Reserve Bank of India (RBI) has decided to close its special foreign currency non-resident (bank), or FCNR(B), deposit swap facility ahead of schedule, amid reports that it has mobilised sufficient foreign currency to strengthen its external-sector buffer.

The special U.S. dollar-rupee concessional forex swap facility, operationalised on June 8, was originally available for FCNR(B) deposits mobilised until September 30. However, following a strong response, the RBI has advanced the cut-off to August 31. The external commercial borrowing (ECB) and overseas foreign currency borrowing (OFCB) windows, however, will remain open until December 31.

The move comes just weeks after RBI Governor Sanjay Malhotra said on August 5 that there was no proposal to prematurely withdraw the facility.

The RBI's decision weighed on banking stocks on August 18, with the Nifty Bank falling 235.40 points, or 0.41%, to 57,262.40. Among major private-sector banks, HDFC Bank, ICICI Bank and Kotak Mahindra Bank fell up to 1.29%. In the PSU space, State Bank of India (SBI), Bank of Baroda and Canara Bank shares also ended in negative territory.

The rupee also ended marginally lower, closing at ₹95.68 per dollar, compared with ₹95.6025 in the previous session.

Why was the facility introduced?

The FCNR(B) swap window was launched when the rupee was under pressure from high crude oil prices, geopolitical uncertainty and foreign portfolio outflows. The RBI wanted to encourage banks to attract foreign-currency deposits from non-residents and bring those dollars into its reserves.

Under the arrangement, banks mobilise dollar deposits from overseas customers and swap the foreign currency with the RBI for rupees. The RBI gets access to the dollars, while banks receive rupee liquidity.

Notably, these dollars do not necessarily enter the open market. Instead, they directly strengthen the RBI's foreign-exchange reserves and provide it with additional ammunition to intervene if the rupee comes under pressure.

How successful was the scheme?

The response has been significantly stronger than expected. As of August 13, the RBI said the concessional swap facility had attracted $56.84 billion in foreign-currency inflows. Of this, FCNR(B) deposits accounted for $52.3 billion, while overseas foreign currency borrowings contributed $2.805 billion and external commercial borrowings $1.741 billion.

The scale of mobilisation is particularly significant given that the RBI had introduced a similar facility during the 2013 currency crisis. The latest programme has attracted substantially more foreign currency.

Why did RBI close it early?

The simplest explanation is that the RBI believes it has raised enough dollars. India's foreign-exchange reserves have also recovered sharply. Reserves jumped $14.136 billion to $707.002 billion in the week ended August 7, after rising $10.512 billion in the previous week.

With reserves rebuilding and the FCNR(B) window attracting more dollars than anticipated, continuing the facility for another month may offer limited incremental benefit.

There is also a liability angle. FCNR(B) deposits are not permanent foreign-currency inflows for the RBI. The central bank has future obligations under the swaps. Once it has accumulated a sufficiently large reserve cushion, attracting additional dollars through the facility may not justify taking on further liabilities.