Net interest margins (NIMs) of most banks are already under pressure and could face further strain from the foreign currency non-resident (bank), or FCNR(B), funds they have mobilised.
EBLR loans are mostly linked to the repo rate, and a hike in the repo rate will impact such lending rates immediately. While EBLR-linked loans adjust immediately to policy rate changes, deposit repricing comes with a lag.
There is an expectation that the RBI’s six-member rate-setting panel may raise interest rates by at least 50 basis points (bps), beginning with a 25-bp hike at the October monetary policy meeting, followed by another 25-bp increase in December, as retail headline inflation is expected to generalise.
Inflation is expected to peak at 6.1 per cent in the third quarter (October-December/Q3) of 2026-27 (FY27), breaching the RBI’s upper tolerance band, before easing in the fourth quarter (January-March/Q4).
India’s retail inflation rose to 4.82 per cent in August from 4.45 per cent in July, while economists expect September inflation to track at around 5.5 per cent. However, they expect the rate-hike cycle to be shallow, with cumulative hikes of 50-75 bps.
A compilation of data from state-owned banks’ books shows that RAM loans account for more than half of domestic advances across all eight state-owned banks. RAM exposure was highest at Central Bank of India at 68.13 per cent, followed by State Bank of India (SBI) at 66.78 per cent, Indian Bank at 66 per cent, Bank of Baroda (BoB) at 62.9 per cent, Canara Bank at 59 per cent, Bank of India (BoI) at 58.3 per cent, Punjab National Bank at 57.2 per cent, and Union Bank of India at 55.5 per cent of their respective loan books in the first quarter (April-June/Q1) of FY27.
Since RAM loans are largely benchmarked to the EBLR, predominantly the repo rate, any rate hike by the RBI’s MPC would lead to their repricing relatively quickly, while deposit rates typically reprice with a lag, providing these lenders with a temporary boost to margins.
“For us, a large part of the RAM portfolio is linked to external benchmarks such as the repo rate. Margins have been under pressure in recent quarters, but a policy rate hike would be transmitted to these loans relatively quickly, allowing banks to reprice their assets and support NIMs,” said a senior executive at a state-owned bank.
Echoing similar views, another senior executive at a state-owned bank said a significant portion of public-sector banks’ RAM portfolio is linked to external benchmarks, meaning any increase in the policy rate is reflected in lending rates almost immediately. “This faster repricing of loans can support margins, particularly when deposit costs do not rise at the same pace,” the banker said.
In Q1FY27, domestic NIMs ranged from 2.52 per cent at Canara Bank and BoI to 3.41 per cent at Indian Bank, with SBI at 3 per cent, Central Bank of India at 3.06 per cent, and BoB at 2.93 per cent.
The hike in the repo rate could come as a boon for banks at a time when the deluge of funds mobilised through FCNR(B) deposits under the RBI’s concessional swap window is likely to put further pressure on margins, with mobilisation far exceeding initial expectations. Banks have mobilised $127 billion through FCNR(B) deposits under the RBI’s concessional swap window, introduced to attract dollar deposits. The window was closed on August 31, a month earlier than the RBI had originally scheduled.
According to a report by Kotak Institutional Equities, while the FCNR(B) deposits have materially improved deposit availability for banks, helping lower the credit-to-deposit ratio and cost of funds, the near-term impact is likely to be a 10-30 bp compression in NIMs, as these “high-quality, regulatory-efficient liabilities” take time to be deployed.
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