Foreign currency inflows may compress Indian banks’ margins but bolster earnings amid rising credit demand

Non-resident foreign currency inflows are expected to reduce Indian banks’ net interest margins yet could enhance overall earnings through increased lending, as robust credit growth continues across sectors amid rising deposits, according to IIFL Capital.

Foreign Currency Non-Resident inflows are set to squeeze Indian banks’ net interest margins, but the broader effect on earnings may still be positive, according to a report from IIFL Capital. The brokerage said the dollar deposits could trim margins by 3 to 15 basis points, yet the extra funding could also support stronger lending and lift earnings per share estimates by 1% to 3%.

The call comes against a backdrop of robust credit demand. Reserve Bank of India data for July showed non-food bank credit rising 19.1% year on year, almost double the 9.9% pace seen a year earlier, with lending strength spread across industry, services, agriculture and personal loans. Industry credit climbed 20%, while services advanced 22.9%, underscoring broad-based borrowing appetite across the economy.

Within the industrial segment, credit growth accelerated sharply from the previous year, and lending to smaller businesses also remained firm. Data cited by the brokerage indicated that month-on-month loan growth was driven mainly by gold loans and micro, small and medium enterprise lending, while housing and unsecured loans also showed signs of improvement.

The same trend is visible in the wider banking system. Outstanding loans at scheduled banks rose 19% in July to ₹220.8 lakh crore, while deposits increased 15% to ₹269.4 lakh crore, according to ETBFSI. That gap suggests banks are still drawing on strong loan demand faster than deposit mobilisation, a pattern that can support revenue growth even if funding costs remain under pressure.