Despite the Reserve Bank of India’s continued efforts, liquidity conditions in the banking system remain tight. Market participants suggest that to ease durable liquidity, the RBI should consider reducing the incremental cash reserve ratio (ICRR), conducting long-term repo operations, increasing open market operation (OMO) purchases, or implementing more long-term buy/sell swaps. They stressed the need to inject additional funds into the system before any potential rate cut in April’s monetary policy committee meeting, as inadequate liquidity could limit its impact.
According to the RBI’s latest data, the banking system’s liquidity deficit stands at Rs 1.88 lakh crore. Market participants attribute this to increased RBI intervention in the currency market, which has tightened liquidity. Additionally, a slowdown in government spending has further strained liquidity. Since December, the deficit has consistently remained above Rs 1 lakh crore.
Consequently, the regulator introduced several measures to ease liquidity stress. In December, the RBI cut the cash reserve ratio by 50 basis points, releasing Rs 1.16 lakh crore into the market. However, liquidity stress persisted despite the move.
This was followed by daily variable rate repo (VRR) auctions, `1 lakh crore in OMO purchases, a USD-INR buy/sell swap, and a 56-day VRR auction. Further, the RBI pledged to implement further liquidity measures as needed.
These measures were followed by the RBI cutting the policy rate by 25 basis points for the first time in five years. However, traders said that despite a rate cut, the cost of borrowings remains high as liquidity conditions continue to be tight.
Market participants believe the RBI should conduct more OMO purchases and long-term buy/sell swaps. So far, the RBI has bought bonds worth Rs 1.39 lakh crore through OMO and secondary purchases, while infusing about Rs 440 crore via a $5-billion dollar/rupee swap.
“With respect to liquidity actions, over the last few months, the RBI has unveiled all possible tools such as CRR, Daily variable rate repo, long-term repo, FX swaps as well as OMO purchases. At the same time, the currency interventions continue to keep liquidity tight. On an incremental basis, apart from allowing more flexibility in the INR, RBI apart from continuing with repo auctions as well as OMO purchases, could possibly look at reducing CRR on an incremental basis, until there is visibility on resumption of capital inflows,” said Rajeev Radhakrishnan, CIO – Fixed Income, SBI Mutual Fund.
On Friday, the apex bank decided to conduct a long-term USD/INR Buy/Sell swap auction of $10 billion for a tenor of 3 years.
The RBI has also infused Rs 1.83 lakh crore through long-term repos that will mature in early April.
“RBI has already injected liquidity of over Rs 40 lakh crore in the banking system in the last 2 months, but there still continues to be some deficit. It’s likely that they will continue to leverage various mechanisms such as OMO and VRR auctions to manage liquidity. It is unlikely though that RBI will cut the repo rate since that could adversely impact the exchange rate which has already seen depreciation recently. Moreover, with the US increasing tariffs, they might face an inflationary scenario, which can have further ramifications in Indian markets,” said Suresh Darak, founder, Bondbazaar.