The cost of borrowing for smaller banks have declined in the past few months due to surplus liquidity of Rs 1.5-2 lakh crore in the banking system. This has reduced the cost of borrowing via certificates of deposits (CDs) by 15-20 basis points in October, making things easier for them.
Coupons on CDs issued by tier 1 banks (banks that regularly issue CDs) such as Bank of India, Bank of Baroda, Indian Banks, Punjab National Bank saw a dip of around 12-15 bps for a three-year CD, while saw a 20-bps dip in one-year CD. In previous quarters, the rates of a three-year CD were around 7.27%, now it is at 7.15%. Meanwhile, banks were issuing one-year around 7.55%.
An ease in rates of CDs issued by large banks helped smaller peers raise funds from the market at cheaper rates as rates of tier 1 lenders serve as benchmark rates for the latter.
With the banking liquidity being in surplus, overnight rates, which serves as a benchmark for short-term debt market instruments such as T-bills, CD and commercial paper, have eased significantly, and this ease has been percolating in other short-term money market instruments, said market participants.
“Gone are the days, when call rate used to be between MSF (marginal standing facility) and repo rate. Call rates, other rates such as TREPS, T-bills, etc, have also come down, giving a wider range of borrowing options (comparatively at a cheaper rate) to smaller banks. Overall, there has been a 5-20 bps dip in overnight money market rates,” said a dealer with a mid-size private bank.
Since October, barring a few days, when outflows such as GST happened, weighted average call rate was below the repo rate of 6.50%, driven by higher surplus liquidity, said market participants.
Usually, whenever the rates on call money go up or down, the rates on CPs, CDs and T-bills move in tandem.
In the last few months, liquidity in the banking system remained in surplus due to higher government spending, intervention by the RBI in the foreign exchange market to curb a sharp fall in rupee and month-end spending of government towards salaries and pensions.
“This is giving some arbitrage to banks. If I am borrowing at lower rates in the overnight market, I can lend 5-10 bps lower, still I will make money. So, overall, it will systematically bring down the short-term lending cost,” said VRC Reddy, deputy GM, Karur Vysya Bank.
The call money market is where banks borrow from or lend to each other for the short term, usually one day, at market-determined rates. Call money rate is expected to stay at or slightly below the repo rate because it has direct implication on short-term rates. Lower call money rate can bring down interest rates on short-term debt instruments.