RBI’s liquidity absorption via VRRR auction narrows funds with SDF to Rs 1 lakh crore

SDF Funds

A continuous liquidity absorption from banking system through variable rate reverse repo (VRRR) auctions by the Reserve Bank of India (RBI) – to manage surplus liquidity - has narrowed the funds parked in the Standing Deposit Facility (SDF) by banks this week to around Rs 1 lakh crore from Rs 2-3 lakh crore over last few weeks.

However, money market experts ruled out the extension of trading hours in the call money markets as the reason behind the narrowing of funds in SDF, since the volumes have not picked substantially in call money.

Kanika Pasricha, Chief Economic Advisor at Union Bank of India said the narrowing of SDF funds is primarily attributable to conduct of VRRRs by the RBI, with the role of extension of calm market timing relatively limited, as market volumes have not seen a significant pickup.

Since RBI started the VRRR auctions from June 27, funds in SDF eased from 2.24 lakh crore on June 27, to Rs 1.09 lakh crore as on July 16. The central bank has so far absorbed Rs 4.91 lakh crore from the banking system through VRRR auction. Apart from falling funds in the SDF, the overall surplus liquidity in the banking system has narrowed to around Rs 3 lakh crore, from over Rs 4 lakh crore in the start of July.

Madhavankutty G, Group Chief Economist at Canara Bank said it's now more profitable to park with VRRR than under SDF, because, when in SDF one gets a fixed return of 5.25 percent whereas VRRR offers a returns close to repo rate or slightly below repo rate, giving some arbitrage on investment.

The central bank started the VRRR auctions after the liquidity surplus in the banking surged sharply to over Rs 4 lakh crore, leading to easing overnight rates in the money market.

The VRRR auctions has also helped overnight rates to move slightly upward and close to repo rate. As per RBI’s data, call money rate increased to 5.36-5.45 percent this week, from 5.20-5.30 percent last month.

Pasricha said there has been repeated assertion by the RBI Governor that the call rate may slip below repo rate during period of surplus liquidity, which is much needed to facilitate policy transmission.

“Hence, the quantum of liquidity locked with the RBI via VRRRs for 2-7 days may be adjusted and / or banks may also cautiously limit the offers in VRRR auctions to enable a reasonable share of banking system liquidity surplus remains parked in SDF,” Pasricha added.

On June 25, the RBI had announced the extension of trading hours of call money and repo and TREPs, effective from July 1. Accordingly, the revised market hours are 9:00 AM to 7:00 PM, RBI said. However, call money market volumes are still subdued despite extending the timing of the market.