The Reserve Bank of India may conduct variable rate repo (VRR) auction(s) as liquidity has moved into deficit mode in the banking system for the first time in FY24.
The banking system has a liquidity deficit of ₹23,644.43 crore, per RBI’s latest money market operations data.
The deficit has arisen because RBI asked banks to maintain an incremental cash reserve ratio (I-CRR); outflows on account of payment of goods and service tax (GST) by businesses, including suppliers of goods & services and e-commerce operators; and pick up in credit.
The central bank injects liquidity into the banking system via VRR auctions. The last time RBI conducted a VRR auction was on June 19 as the liquidity surplus had moderated.
“Liquidity deficit will affect the call money rate. I think, RBI will come up with VRR auction. The liquidity deficit has come about because banks have been asked to maintain I-CRR, GST payments, and some pick up in credit demand.
“They may announce VRR anytime now. It depends on how they assess the situation,” said Madan Sabnavis, Chief Economist, Bank of Baroda.
He noted that the increase in bank deposits due to inflow of ₹2,000 bank notes would have tapered off.
Liquidity pressure
“The liquidity pressure may persist for a month because in September there will be outflows on account of advance tax payments,” per Sabnavis’ assessment.
Venkatakrishnan Srinivasan, Founder and Managing Partner, Rockfort Fincap LLP, expects RBI to come up with liquidity injection measures, including partial withdrawal of I-CRR or conduct VRR auction.
The RBI asked scheduled banks to maintain (with effect from the fortnight beginning August 12,) an I-CRR of 10 per cent on the increase in their deposits between May 19, 2023 and July 28, 2023.
This was prescribed to absorb the surplus liquidity generated by various factors such as the return of ₹2,000 notes to the banking system, RBI’s surplus transfer to the government, pick up in government spending and capital inflows.
Call money rates harden
The liquidity tightness in the banking system had a ripple effect on overnight call money market rates, which hardened, going beyond the marginal standing facility (MSF) rate of 6.75 per cent.
Overnight call money rate on Tuesday touched a high of 6.85 per cent intra-day, with the weighted average rate (WAR) being 6.7597 per cent.
Under the operating framework of the monetary policy, RBI keeps call money in the Liquidity Adjustment Facility (LAF) corridor of 6.25 per cent (absorbing surplus liquidity from banks at this rate under the Standing Deposit Facility) to 6.75 per cent range (injecting liquidity at this rate into Banks under the Marginal Standing Facility), with the repo rate being the mid-point (6.50 per cent). So, it modulates call money rate within this corridor.
Another sign of liquidity stress in the banking system is that there was high subscription of ₹89,813 crore at the MSF on Monday at 6.75 per cent. After exhausting their capacity to borrow from MSF, banks tapped overnight call money, leading to the rate shooting up to 6.95 per cent.