Despite last week’s cut in banks’ cash reserve ratio (CRR), liquidity is expected to remain tight but might not result in a hardening of certificates of deposit (CD) rates, as sluggish loan growth is expected to continue.
“We do not think the CRR-induced liquidity will stay for long. We think it is unlikely that the government’s Ways and Means Advances surplus with the Reserve Bank of India (RBI) will reduce significantly. In November, we would expect another Rs 20,000-25,000 crore of leakage on account of rise in currency with the public, specially because it is Diwali and the state elections’ season. Our calculations suggest liquidity will head back towards a Rs 80,000-90,000 crore deficit by November 15-20,” said Suyash Choudhary, head-fixed income, IDFC Mutual Fund.
Today, banks borrowed Rs 58,205 crore under RBI’s liquidity adjustment facility, compared with a daily average borrowing of a little over Rs 72,000 crore in the past month. Bank credit growth was 16 per cent over a year till October 19, as compared with 19.3 per cent in the same period last year.
In the second-quarter monetary policy review on October 30, the central bank had cut CRR by 25 basis points to 4.25 per cent of banks’ net demand and time liabilities, effective the fortnight beginning November 3. CRR is the proportion of deposits a bank has to keep with RBI as cash. The cut released Rs 17,500 crore but a large part of it was taken today due to payment by successful bidders towards Friday’s government’s bond auction worth Rs 13,000 crore.
Last week, RBI Governor D Subbarao said in a post-monetary policy conference call that the constraints operating in the liquidity system would persist for a few more months. According to him, even the demand for currency might persist beyond the festival season because the opportunity cost of holding this was low.
The Street expects RBI to conduct open market operations (OMOs), purchasing gilts to ease the situation. “If the liquidity deficit reaches around Rs 80,000 crore, RBI will start with OMOs. I feel in the last week of November we may see OMOs because in the third week of this month, liquidity might tighten,” said N S Venkatesh, chief general manager & head of treasury, IDBI Bank.
But despite tight liquidity, CD rates are not expected to harden. “Though the rates on three-month CDs has not softened, one-year CD rates are down by at least 25 basis points in the last one month. This indicates rates are likely to soften over the medium term. If credit does not pick up, rates on three-month CDs may also fall,” said V R Rajendran, executive director, Corporation Bank.
However,it could be different with the rates on commercial paper (CP). “Banks are seeing a few cases of defaults in CP because of which they may not be willing to lend that aggressively, unless it is a highly rated company. So, we may see a little hardening in CP rates. Earlier, CD and CP rates used to move in tandem. Now, we may see a bit of divergence because defaults in CP have slightly gone up,” said Venkatesh.