RBI's daily VRR auction may not help higher liquidity deficit, experts say

liquidity

Daily variable rate repo (VRR) auction by the Reserve Bank of India (RBI) is unlikely to ease the high liquidity deficit in the banking system, money market experts said. It may, however, keep overnight money market rates in check, which are volatile due to higher deficit.

“Daily VRR will reduce the volatility of the overnight rates. It's not helpful for long term durable liquidity,” said Alok Singh, Group Head Treasury at CSB Bank.

The central bank announced daily VRR auctions on January 15 after a review of liquidity. All VRR auctions are to be conducted on working days in Mumbai and reversal the next day.

After the announcement, the RBI has, so far, conducted two VRR auctions — on January 17 and January 20 — and infused Rs 1.09 lakh crore in the banking system. The support was provided when the liquidity in the banking system is in huge deficit of around Rs 1.94 lakh crore.

Liquidity has been under pressure since mid-December after heavy tax outflows and interventions by the RBI in the foreign exchange market to curb the volatility in rupee.

Banks saw outflows of over Rs 3 lakh crore as tax payments. The RBI’s intervention in forex market, costing more than $60 billion, to stabilise the rupee, also put pressure on liquidity.

The higher liquidity deficit has put pressure on the overnight money market rates, which, so far, this month and last month traded above the RBI’s repo rate.

Weighted average call money rates traded in the range of 6.6 percent to 6.74 percent since the liquidity turned deficit.

Usually, higher overnight rates push up the cost of borrowings for corporates and banks, those are raising funds for the short term to meet their working capital and funding needs.

Money market experts expect the deficit to remain till the end of this financial year.

Former RBI governor Shaktikanta Das, during post-policy press conference in December, also said the central bank expects tight liquidity in the remainder of the fiscal.

“With spending likely to accelerate by government in this quarter, expect liquidity deficit between Rs 1-2.5 lakh crore deficit,” said Gopal Tripathi, Head Of Treasury at Jana Small Finance Bank.

An SBI Research report said amend Liquidity Management Framework to replace Weighted Average Call Rate /WACR with Secured Overnight Rupee Rate, akin to the Secured, and Overnight Funding Rate (SOFR) replacing LIBOR and being better reflective of prevailing cost of funds being pegged to effective Fed Funds rate, use the spread between CD and SORR/T-bill as an indicator of liquidity tightness / adequacy.