Date:28/08/2008 URL: http://www.thehindubusinessline.com/2008/08/28/stories/2008082851930600.htm

Back Banks see liquidity staying tight for some more time

C. Shivkumar

Bangalore, Aug. 27 With the Reserve Bank of India (RBI) maintaining its current monetary policy stance, tight liquidity conditions are expected to continue for some more time.

Top bankers said that the RBI was unwilling to relent on extending the repurchase operations to special government securities that include subsidy bonds, SBI rights and IDBI bonds. Bankers said that the RBI had indicated that special government securities were already eligible for market repurchases. Market repurchases implied that the bonds could be used for raising funds through the Collateralised Borrowing and Lending obligations markets or through ready forward deals.

Bankers said that one of the major reasons advanced against extending RBI’s repurchase of special bonds was that it would result in liquidity expansion. This was particularly at a time when the central bank was determined to contain liquidity expansion within the targeted band of 15-17 per cent. According to the Weekly Statistical Bulletin, expansion in broad money supply or M3 was 19.6 per cent, well above the RBI preferred band.

Slowdown in FII flows

The tight liquidity situation was also largely driven by the slowdown in foreign currency inflows. Since the beginning of the current year FII out flows amounted to over $155 million.

Besides inflows on the capital account, especially external commercial borrowings (ECB), were yet to take place. In fact, currently most corporates shunned foreign borrowings currently in view of high costs. As a result, accretions to foreign exchange reserves that were once source of money supply expansion slowed down.

MSS mop-up on track

Despite the slowdown in accretions, the RBI’s liquidity mop-up through market stabilisation scheme securities (MSS) remained on track as part of the monetary tightening regime. MSS outstandings remain at Rs 1.71 lakh crore. At Wednesday’s Treasury bill auction, the MSS component was Rs 2,500 crore.

The tight liquidity stance was largely driven by inflation focus, bankers said. The focus was despite the Finance Minister’s Chief Economic Advisor, Dr. Arvind Veermani, some time ago arguing that the GDP deflator, another measure of price rise, was well under control at about 6.5 per cent.

Further tightening

Besides, bankers said, with the Economic Advisory Council paring the GDP growth to 7.7 per cent, a further tightening appeared imminent. Most of them now expected another round of hike in the Cash Reserve Ratio (CRR).place. The last CRR hike to 9 per cent announced on July 29, becomes effective this week end and at least Rs 8,000 crore is expected to be mopped up as a result.

Yet recourse to the RBI’s Liquidity adjustment facility declined during the week. At the LAF auction, the recourse to the repurchase window was only to the tune of Rs 4,050 crore from six bidders. Bankers said that the situation was largely on account of redemptions of government securities amounting to over Rs 20,000 crore. Among the securities coming up for redemption included the 4.88 per cent 2008 on August 28, the 11.40 percent 2008 on August 31 and the 12.25 per cent 2008 on September 8. Bonds were on the retreat as a result. The ten year yield to maturity is currently at 8.95 per cent, off last week end 9.15 per cent.