Mumbai: As bond prices dip amid fears of fiscal slippage, a new study by the Reserve Bank of India (RBI) is likely to offer some clues to the financial markets. A report on ‘liquidity’ which the monetary authority is expected to release any day now, may hint at the level of liquidity that the RBI would prefer to maintain, the strategy it could pursue, and how actively the central bank would conduct its open market operations (of buying from or selling securities to banks) in influencing liquidit ..
“It will be released at a point when bond yields are up after the cut in corporate tax and there is a widely shared belief that the RBI may become less aggressive in cutting rates. Under the circumstances, if the report signals that OMO is the preferred tool, the market may conclude that higher borrowings would be offset by RBI purchase (of government bonds),” said a bank treasurer. Such a hint would help in keeping the cost of borrowing low in the bond market.
Significantly, the report may serve as a document that will provide a backing to the liquidity framework and easy liquidity policy that the RBI has pursued since Shaktikanta Das took charge as governor.
Battling a fall in growth, effects of past liquidity squeeze, and financial turbulence following the collapse of IL&FS, Das made reviving growth the top priority of RBI.
In the current monetary policy regime, the five-member Monetary Policy Committee (MPC) sets the interest rate while the RBI has to manage liquidity in a way where the effective rate in the money market is close to the repo rate — the rate at which central bank lends to banks or provides liquidity to the banking system. (Reverse repo rate is the rate at which RBI borrows from banks or soaks excess liquidity from the banking system).
In fact, the RBI has been sucking out surplus liquidity from banks by announcing fixed reverse repo rates that are close to the repo rate. The market expects the RBI committee on liquidity will take a relook at this present policy to anchor the system to the repo rate.
“If the RBI lets the market rate fall to the level reverse repo rate, the question crops up whether the central bank’s liquidity management is at odds with stance taken by MPC. Thus, the market expects the report may open up the possibility of RBI running the system by linking it more with reverse repo,” said another banker. In fact, the internal committee was constituted in response to the criticism that an accommodative stance and tight liquidity conditions do not go hand in hand.
Besides recommending policy and prescriptions to be maintained by RBI across rates and stance cycles, the committee preparing the report may introduce concepts like ‘durable liquidity’. Indeed, the concept of liquidity, the absence of precise definition and whether the liquidity infused was temporary in nature were among the factors that also contributed to the setting up of a new committee to study and review the liquidity framework.
Source: economictimes.indiatimes.com