State Bank of India’s economic research team believes the stage is set for a reverse repo normalisation, given that the Triparty Repo Dealing and Settlement (TREPS) and call money rates are ruling higher than the reverse repo rate.

Normalisation means the reverse repo rate (the interest rate banks earn for parking surplus liquidity with RBI) of 3.35 per cent can be raised to 3.75 per cent in one or two stages.

The RBI’s revised liquidity management framework (February 2020) has retained the width of the liquidity management corridor at 50 basis points – the reverse repo rate being 25 basis points below the repo rate (of 4 per cent) and the Marginal Standing Facility rate 25 basis points above the repo rate.

The width of this corridor was increased to 90 basis points in the April-May 2020 Covid period by cutting the reverse repo rate.

The purpose of the aforementioned cut in reverse repo rate was to make it relatively unattractive for banks to passively deposit funds with the Reserve Bank and use these funds for on-lending to productive sectors of the economy.

Soumya Kanti Ghosh, Group Chief Economic Adviser, SBI, said: “The markets may have factored in that the current omicron will result in an endemic stage in the covid cycle and thus a faster normalization of economic activities.

“Additionally, in any rate hike cycle, the financial markets actually does better as any material risk is factored in the prices.

Ghosh noted that bond yields in India have steadily risen in a narrow band.

“Surprisingly, the market participants, as gauged from latest RBI professional forecaster survey, underpriced the impact of rise in yield in response to Fed announcement.

“The yield is expected to continue northwards in Q4 (January-March). We believe Government Security (G-Sec) rates could move in the range of 6.4-6.8 per cent (pre pandemic level),” he said in the report “Ecowrap”.

SBI’s economic research team expects that even though the signalling repo rate may be capped at 4 per cent by the RBI, through much of FY23, a spread of 275 points over the repo rate may be the risk spread given the demand-supply inequality.

They noted that crude prices might stay high soon at current levels.

Better risk pricing

The report observed that in the Indian context, during the growth boom for the three years ended 2008, when the signallingrate/repo rate jumped by 275 basis points, the NSE Index had jumped by 79.1 per cent.

“Interestingly, for the 2 year period ended 2011 , when rates jumped by 375 basis points, NSE Index did jump by a staggering 54 per cent. Clearly, better risk pricing always results in better price discovery in markets,” Ghosh said.

Redemption pressure

SBI’s economic research team believes that the redemption pressures of the Government is going to be significantly large and will peak in FY27 at Rs 6.25 lakh crores. The redemption of G-secs are particularly large beginning FY23.

“What is more significant is that average oil bond redemption at ₹35,000 crore will be an added headache from FY24 onwards.

“Considering all this, the RBI and the Government in conjunction will have to do large switches in next couple of years to manage the redemption as a part of signaling,” Ghosh said.

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