Market participants do not expect the Reserve Bank of India (RBI) to drain excess liquidity in the short-term despite levels above 1% of net demand and time liabilities (NDTL) and standing deposit facility (SDF) nearing its all-time high. This will help transmission in the money markets, they said.
SDF Surge
With overnight rates falling and the RBI avoiding liquidity drains, banks are parking large sums in the RBI’s SDF to capture the spread—which has risen 60 basis points (bps) – between overnight rates and the SDF.
In the last week, banks parked an average of Rs 4.47 lakh crore with the SDF. They placed a record Rs 5.3 lakh crore on February 6.
“From mid-December to end-January, weighted average call rates stayed high. The RBI is probably neutralising that by keeping rates low for a while, thereby aiding transmission. High surplus liquidity leads to lower overnight rates, helping transmission in the money markets,” said Shailendra Jhingan, head treasury and economic research, ICICI Bank.
System liquidity stood in surplus at Rs 3.03 lakh crore as on February 12. The liquidity surplus averaged to Rs 2.57 lakh crore in February, compared to Rs 65,948 crore in the previous month. Term variable rate repo (VRR), bond purchases, and forex swaps, along with government spending, have led to large overnight liquidity surplus, said dealers.
Natural Tightening
“We will have GST outflows in the next week. So, there would be some natural withdrawal of the liquidity from the market. We do not think that RBI would try to suck out the liquidity before that,” said Vikas Garg, head of fixed income at Invesco Mutual Fund. He added that without further sharp decline in overnight rates, the RBI is unlikely to conduct variable rate reverse repo (VRRR) until next month.
Agreeing to that, the treasury head at a public sector bank said, “CD (certificate of deposit) rates remain elevated, with significant maturities expected this quarter. For now, the RBI might opt to let excess liquidity linger, helping to ease CD rates.”
Market participants believe with liquidity remaining tight beyond overnight, banks are increasingly tapping CD market to fund their credit demand, which pushed up the rates. Issuances are projected to rise further this quarter, putting an upward pressure on rates.
While one-month CD rates have fallen, one-year rates have declined only modestly. The three-month CD rate has come down by just 17 bps in February, while one-year rate has declined by 14 bps. One-month CD rate has come down by around 50 bps.
The chief investment officer at a private insurance company said with tax outflows starting next week, the RBI won’t see the need to drain liquidty now.
Agreeing to it, Madan Sabnavis, chief economist, Bank of Baroda, said: “It is unlikely that the RBI will announce VRRR in the short-term. I expect OMOs or term VRR after March 15, when advance tax outflows start, along with the pressure from bank year-end closings and rising credit demand.”
The weighted average call rate was at 5.04% on Friday compared to an average of 5.32% in January. Tri-party repo rate ended at 4.86% on Friday. It was above 5% in the previous month.