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BL Research Bureau

The Reserve Bank of India has come out with a package of moves aimed at easing the tight short-term liquidity situation in the banking system, while defending the rupee from further depreciation.

The RBI has announced measures that will allow banks to pledge one per cent of their net time and demand liabilities (deposits) additionally with the RBI through repo window to meet their liquidity needs.

This will help banks raise more funds through the repo window instead of money markets, where call rates have shot up recently to levels as high as 16 per cent. The second liquidity adjustment facility, which was introduced to inject more liquidity in system on every reporting Friday (every week), will also be opened up daily to pump more liquidity in the current scenario. Liquidity in the banking system has tightened considerably after the August 30 cash reserve ratio hike.

Banks and other financial institutions, which have already run out of their excess statutory liquidity ratio securities to pledge for the repo auction, had to look to the money market for liquidity at higher rates of interest; now they may get some relief on this score.

The ongoing global market crisis, fear of portfolio outflows and increasing dollar demand led to a sharp slide in the rupee dollar exchange rate in recent weeks. Until now, the RBI has resorted to indirect measures of supporting the exchange rate. But with the rupee falling to Rs 46 levels, the bank has made it clear that it will intervene to curb further depreciation of the rupee by increasing the supply directly or through its bank agents.

The 50-basis point increase in interest rates on foreign currency non-resident and non-resident (external) accounts, targeted at NRI depositors, also seems to be a move to stimulate inward remittances and shield the rupee.

The RBI is also considering the option of relaxing the cap on external commercial borrowings.

Clamping down on liquidity to curb inflation has been a key goal for the central bank in recent months. But with excess liquidity diminishing recently, the RBI appears to have initiated moves to address this through the above measures. While the above cues argue for the RBI to hold interest rates, credit, money supply and deposit growth, which remain well above the comfort zone for the RBI and inflation at 12 per cent, may be deterrents.

More Stories on : Financial Markets | RBI & Other Central Banks | Forex

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