The Reserve Bank of India (RBI) and the finance ministry created a flood of liquidity on Wednesday to help banks channel investments into the economy and keep stock markets buoyant, despite the global uncertainties.
RBI deployed its full arsenal of instruments to release funds to banks and financial entities and made it more attractive for global investors to invest in rupees, after noting the sustained improvement in the rates at which banks borrow from each other and the resultant cutback in their demand for cash from RBI through the repo window.
The central bank cut the cash reserve ratio (CRR) for banks by another 100 basis points and relaxed the statutory liquidity ratio by 50 basis points to make loans from banks easier for redemption-pressured mutual funds. It also increased the interest rates on bank deposits held by non-residents in rupee and foreign currency by 50 basis points.
Simultaneously, the finance ministry doubled the limit for investment in corporate bonds by FIIs to $6 billion, promised to provide support to commercial banks to increase their capital adequacy ratio to 12% and released Rs 25,000 crore to banks to compensate them for agricultural debt waivers. The recapitalisation effort will benefit 16 smaller public and private sector banks, as larger banks like SBI and ICICI Bank have capital adequacy above 13%.
However, the ministry did not specify if the support would come as recap bonds or as additional shares. Together, RBI and the finance ministry released Rs 85,000 crore through Wednesday?s various measures. In the past fortnight, RBI has cut CRR by an aggregate of 250 basis points to 6.5%, releasing Rs 1,00,000 crore into the financial system.
The decisions followed day-long presentations by banks, FIs and mutual funds to the high-powered committee led by finance secretary Arun Ramanathan in Mumbai. They identified liquidity as the major constraint, despite call money rates hovering at 10-10.25% resulting in banks borrowing only Rs 55,340 crore from RBI?s repo window.
Committee member YM Deosthalee, CFO, Larsen & Toubro, said liquidity is still a major concern, but the series of steps taken by RBI would ensure that the growth momentum of the economy was unimpeded. ?RBI must make sure that lending activity continues. The finance minister has said the government will take more steps if needed.?
Bankers said the combined measures would definitely ease pressure on all entities, including on MFs for liquidity support. Parthasarathy Mukherjee, Axis Bank treasury head, said extending credit lines should be easier for banks now. In turn, mutual fund managers said they could cut back on the distress sale of stocks they were making in a declining market to meet redemption pressures.
Both finance minister P Chidambaram and RBI governor D Subbarao acknowledged that liquidity was the basic problem they were addressing. The RBI statement noted, ?The continuing uncertain global situation is having an indirect impact on our financial markets.? Wednesday?s coordinated moves come despite ?the Indian interbank unsecured money market functioning normally,? RBI observed.
Chidambaram said, ?After identifying liquidity as the main problem that has constrained the financial system, a number of measures were taken between October 6 and today (October 15). These measures have infused considerable additional liquidity into the market.?
Chanda Kochhar, joint managing director, ICICI Bank, said, ?The measures are good enough to manage the short-term liquidity problem, (but) we would not reduce our deposit and lending rates.?