The linking of non-resident external rupee deposit rate to the London inter-bank offer rate has put the banking sector in a quandary even though some banks have already cut rates.

The fluctuations that the (Libor) is subject to could pose problems in communicating the changes immediately to the vast network of branches as also increase the tedium of calculations in arriving at the interest payable, senior bankers said.

The banks, instead, will feel comfortable if the Reserve Bank of India announced the NRE deposit rates at monthly intervals.

"This is not possible as it would sound a retrograde step. But the logic stems from the fact that the interest payable on all new NRE deposits by commercial banks will be the same owing to the RBI cap on interest payable on these deposits," a banker said.

"With banks having no choice but to follow the RBI diktat, which caps the interest payable on NRE deposits to 250 basis points over Libor, the banking system will see uniformity in interest rates on NRE deposits. No bank can afford to announce a lower mark-up over Libor as it will lose business. In such a situation it will be better that the RBI announces the NRE deposit rates at regular intervals," a senior public sector bank official said.

At the current one year Libor level of 1.20 per cent, the interest payable on a one-year NRE deposit is 3.50 per cent.

This is still attractive compared with 1.50 per cent that an investor gets overseas. Prior to the RBI diktat the depositor could earn 5 per cent for a one-year deposit.

"Banks will face a problem in the sense that the Libor is subject to changes. So it will be better if the central bank announces the reference Libor rate every fortnight for the purpose of calculating interest payable on the NRE deposits," S A Bhat, general manager, Bank of India, said.

According to the RBI, in order to provide consistency in the interest rates offered to NRIs, it has been decided that, until further notice, the interest rates on fresh repatriable NRE deposits for one to three years contracted effective July 17, 2003 should not exceed 250 basis points above the Libor rates for dollar of corresponding maturity," the RBI release said.

At present, banks can offer FCNR(B) in foreign currency and NRE deposits in domestic currency to non-resident Indians.  NRE deposits are fully repatriable.

The exchange risk in case of NR(E) deposits is taken by the depositor while in case of FCNR(B) it is borne by banks.