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Nov 30, 2016, 07.48 AM | Source: Moneycontrol.com

5 things you must know about RBI's Market Stabilisation Scheme

The Reserve Bank has raised the cash deposit or reserve ratio limit for banks to contain liquidity surge post demonetisation. However, it has also assured it will revisit the limits once the government issues an adequate quantum of Market Stabilisation Scheme bonds. Here are 5 things you should know about MSS bonds and how they will help.

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5 things you must know about RBIs Market Stabilisation Scheme

The Reserve Bank has raised the cash deposit or reserve ratio limit for banks to contain liquidity surge post demonetisation. However, it has also assured it will revisit the limits once the government issues an adequate quantum of Market Stabilisation Scheme bonds. Here are 5 things you should know about MSS bonds and how they will help.

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Moneycontrol Bureau

On Saturday, the Reserve Bank of India ordered banks to deposit with the regulator their excess cash haul following the demonetisation move. This was no normal dictat. There was a catch -- the banking regulator told banks to hand over all incremental deposits collected between September 16 and November 11. Banks will have to deposit their haul with the RBI from the fortnight beginning November 26 as Banks have to park these deposits with the RBI from the fortnight beginning November 26 as incremental cash reserve ratio (CRR).

This move is intended to suck out excess cash -- of over Rs 3 lakh crore -- from the system that is awash with post-demonetisation currency.

In initial reactions to the move, State Bank of India chief Arundhati Bhattacharya hoped that the banking regulator would find a better way to 'compensate the banks.' Although it is temporary measure, the 100 percent shock from the CRR tool could be replaced by other measures  -- most notably by bonds under market stabilisation scheme. 

So, what exactly is the market stabilisation scheme? Here are five things you to wrap your heads around.   

What is the Market Stabilisation Scheme (MSS)?
Market Stabilisation Scheme or MSS is a tool used by the Reserve Bank of India to suck out excess liquidity from the market through issue of securities like Treasury Bills, Dated Securities etc. on behalf of the government. The money raised under MSS is kept in a separate account called MSS Account and not parked in the government account or utilised to fund its expenditures.

When was MSS first launched and under what conditions?

The Reserve Bank under Governor YV Reddy initiated the MSS scheme in 2004. To control the surge of US dollars in the Indian market, RBI started buying US dollars while pumping in rupee. This eventually led to over-supply of the domestic currency raising inflationary expectations. MSS was introduced to mop up this excess liquidity.    

In the context of demonetisation, why are banks for MSS more than Cash Reserve Ratio (CRR)?

CRR is a percentage of total deposits the banks are required to set aside with the RBI. It is a sort of contingency fund and does not earn any interest. An increase in CRR means the funds available with banks for lending purposes will be that much lower, ultimately limiting the possibility of a lending rate cut by banks. MSS bonds, on the other hand, have a fixed tenure and earn returns. 

What was the current limit under MSS?

For the current fiscal, the RBI had fixed the ceiling under MSS at Rs 30,000 crore. However, a higher amount will be required now to contain liquidity post demonetisation.

What are some other tools to suck out liquidity?

Apart from issuing MSS bonds and increasing CRR, the Reserve Bank can resort to tools like reverse repo, or interest yielding short term cash management bills that can help drain additional liquidity. 

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