Banking system liquidity has dropped to under Rs 50,000 crore on a daily average basis amid dollar sales by the Reserve Bank of India (RBI) to shore up the rupee, tax outflows, a slack in government spending and slower deposit growth relative to credit growth.
The net liquidity absorbed by the central bank as on July 27 stood at Rs 49,245.52 crore, as per data available on its website, down from Rs 2.16 trillion as on June 27. Banks parked Rs 51,810 crore under the standing deposit facility (SDF) on Wednesday. Market participants said that the RBI has intervened by conducting a three-day Rs 50,000-crore variable rate repo auction on Wednesday to ease the liquidity tightness.
Saugata Bhattacharya, chief economist, Axis Bank, said that the RBI has made transactions worth almost $1 billion a day during the last 10 days in forex interventions. “What has contributed to the sudden tightening of liquidity which necessitated a VRR auction yesterday (Wednesday) – and there may be more coming – is that government spending has not increased,” he said.
Central government balances with the RBI are estimated at Rs 4.5 trillion. “So, that is a latent pool of liquidity that can be deployed as and when the government spends,” Bhattacharya said. If government spending takes off and the pace of US rate hikes moderates, leading to normalised portfolio outflows, from the current level of Rs 50,000 crore, the surplus should go up to Rs 2-2.5 trillion over the next one month, he added.
Abhishek Goenka, founder and CEO, IFA Global, said that overnight rates, which used to be around 4.85%, have spiked to around 5.25%. “We may start seeing volatility in overnight rates and imbalances in liquidity position among banks if the surplus liquidity keeps draining out further,” he said in a statement on Wednesday.
Apart from the central bank’s rupee defence, which has resulted in the sucking out of some liquidity, a months-long trend of deposit growth undershooting credit growth is also contributing to liquidity tightness, some analysts said.
Madan Sabnavis, chief economist, Bank of Baroda (BoB), said that in order for liquidity conditions to ease off, deposits must return to banks. “The liquidity tightness is being seen because credit is growing much faster than deposits in the banking system. That, in turn, could be happening because rates are low and savers may be shifting to the stock market or mutual funds. Also, high inflation could be eating into savings at the lower end,” he said.
Non-food credit outstanding at banks grew 13.5% year-on-year (y-o-y) during the fortnight ended July 15, while deposits grew 8.35%.
Ratings agency Icra on Thursday said in a note that banks’ dependence on certificates of deposit (CDs) has been increasing in recent months to fund incremental credit demand with the CD outstanding volume rising 243% y-o-y as of July 1 to Rs 2.4 trillion. The spread on CD issuances by banks rose to 170 basis points (bps) over their average six-month deposit rates in July 2022 from 30 bps in April.
Anil Gupta, vice president, Icra, said that as banks enter a seasonally busy period for incremental credit demand, their systemic liquidity will reduce further as deposit growth continues to lag incremental credit growth.
“We also expect a hike in the repo rate (and hence SDF rates) by 60 bps by the end of September 2022 to 5.5%, which would further push up the yield on various benchmark instruments like T-Bills and hence the bank CD rates, thereby widening the spreads even more vis-à-vis bank deposit rates,” Gupta said, adding, “This will push banks to start chasing deposits aggressively, which will also lead to higher deposit rates in the next three quarters.”