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Informist, Wednesday, Jun. 4, 2025

 

By Shubham Rana and Aaryan Khanna

 

MUMBAI – The Reserve Bank of India's revision of its economic capital framework might have eaten into the surplus transfer to the government this year but the tweaked framework has placed the RBI in a better position to deliver more sustained bounties to the government, according to economists and market participants.

 

In May, the RBI's central board approved the transfer of INR 2.69 trillion to the government as surplus for 2024-25 (Apr-Mar). While a record high, the surplus transfer was at the lower end of market expectations, which had pinned hope on a figure close to INR 3 trillion.

 

The Union Budget for FY26 had pencilled in INR 2.56 trillion as receipts from the RBI's surplus transfer and dividends from state-owned banks this year. As per the revised Budget estimates for FY25, the government expected INR 2.34 trillion as surplus transfer from the RBI and dividend from banks and financial institutions. The government had received INR 2.11 trillion as surplus from the central bank, meaning it expected INR around 230 billion as dividend from banks and financial companies last year. The INR 2.69 trillion surplus was from the RBI's FY25 operations, but will reflect as receipts in government's accounts for FY26.

 

The surplus transfer fell short of market expectations mainly because of a higher contingent risk buffer of 7.50% that the central bank will hold for FY25 compared with 6.50% a year ago. Maintaining a higher risk buffer reduced the money available for transfer to the government by INR 760 billion.

 

Had the risk buffer been maintained at 6.50%, the surplus would have been around INR 3.5 trillion, above the most optimistic market estimates. The buffer was higher because of the revision in the RBI's economic capital framework, under which the contingent risk buffer range was widened to 4.50-7.50% from 5.50-6.50?rlier.

 

"RBI has widened the contingent risk buffer band which gives greater flexibility to reduce the volatility in dividend payouts when income generation or balance sheet expansion slows down," said A. Prasanna, head of research at ICICI Securities Primary Dealership. "Pegging this year's risk buffer at 7.5% also gives them the opportunity to spread out this year's windfall gains over next 1-2 years," Prasanna said.

 

The RBI's income over the years has fluctuated both due to macroeconomic factors and interest rates, influencing interest income and profits from foreign exchange operations, and one-time events. For example, the FY22 surplus transfer of only INR 303.11 billion--the lowest since the Bimal Jalan committee's recommendations were adopted--was due to increased provisioning amid high balance sheet growth and a change in the RBI's accounting year to Apr-Mar from Jul-Jun, shortening that accounting year to nine months.

 

When surpluses were low, the RBI's board did not have additional heft to enhance the transfer as the central bank was already maintaining provisions at the lower end of the 5.5-6.5?nd.

 

The RBI said a revision in the framework was needed as the transfer of surplus to the government has not been "as stable as was desirable". Since the economic capital framework was adopted in 2019, the RBI's surplus transfers have been volatile, ranging between INR 303 billion for FY22 and INR 2.11 trillion for FY24. Prior to FY19, the RBI's surplus transfers remained well below the INR 1 trillion mark at around INR 500 billion to INR 600 billion.

 

"It is observed that the existing range of 1.0% for buffers for monetary and financial stability risks provides very limited flexibility to the Central Board to smoothen the transfer of surplus to the Government," the RBI said in the revised framework report. "As surplus generated is essentially a function of the cyclical interest rates, a case could be made for a wider range, which will provide adequate flexibility to the Central Board to smoothen transfer of surplus to the Government," the central bank said.

 

"The RBI has widened the buffer on both sides, which gives them an opportunity to make use of higher transfers when it needs to," a treasury head at a private bank said. "Optically, they have raised the buffer now to 7.5% (of the balance sheet), but should the cycle turn, they can go as low as 4.5% to ensure that the government will continue to have good cash flow regardless of the economic situation."

 

The RBI managed to transfer a record high surplus of INR 2.69 trillion for FY25 because of a sharp rise in gains from foreign exchange transactions and interest income from foreign securities. Gains from foreign exchange transactions increased 33% on year to INR 1.11 trillion in FY25, while interest income from foreign securities jumped 48.5% on year to INR 970.07 billion.

 

According to Upasna Bhardwaj, chief economist at Kotak Mahindra Bank, the RBI could transfer a similar surplus next year as well because of higher interest earnings from both domestic and foreign sources. Interest income, however, could be offset to some extent by likely lower dollar sales given relatively lesser pressure on the rupee, though larger foreign exchange sales cannot be ruled out, she said.

 

The central bank's profits on dollar sales have ballooned with the rupee's depreciation. Its accounted cost of dollars is the weighted average cost of purchases of its entire holdings, while sales are accounted for at the current market price. The historical cost on dollar holdings is tracking INR 69 per dollar, IDFC FIRST Bank said in a report, which is expected to rise as the RBI continues to churn its FX portfolio.

 

"However, the RBI will retain the discretion to transfer a higher amount depending on the CRB (contingent risk buffer) being pegged between 7.5% and 4.5% as per the revised ECF (economic capital framework)," Bhardwaj of Kotak Mahindra Bank noted. Economists at ICICI Bank believe the RBI's balance sheet could continue to expand in FY26 if it continues to buy government bonds to provide liquidity into the system. Analyst consensus is that the central bank will buy gilts worth around INR 4 trillion in total this fiscal, of which INR 2.39 trillion worth of bonds have already been bought in April and May.

 

Another reason behind the revision in the economic capital framework is heightened risks even as the framework has "stood the test of time", including a pandemic. The RBI said that certain risk sources that were not included in the framework previously have now gained in importance and merit inclusion.

 

The RBI's decision to include off-balance sheet portfolio while calculating market risk buffer also suggests the central bank wants to keep additional buffers in the face of geopolitical and trade uncertainty, economists said

 

"These revisions reflect a more resilient and flexible ECF (economic capital framework), aimed at meeting the emerging global and domestic economic risks," Nomura said in a report. "The core structure remains unchanged, but refinements aim to enhance stability in surplus distribution and risk absorption capacity."  End

 

US$1 = INR 85.84

 

Edited by Akul Nishant Akhoury

 

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