As durable liquidity reduces, RBI’s tone suggests tolerance of easing overnight rates
Reserve Bank of India’s latest policy tone suggests that it could tolerate funds flowing to the system through government spending as long as durable liquidity keeps reducing, in line with the central bank’s inflation targeting aim.
“Should govt spending pick up in Q4 and lead to system liquidity improving then that could see overnight rates falling back towards Repo rate. As long as that process is coterminous with a fall in durable liquidity RBI should allow the reset in overnight rates to play out,” economists from ICICI Securities Primary Dealership wrote in a December 11 note.
An easing call rate indicates lower cost of borrowing in the economy as a host of financial instruments are linked to the interbank rate of borrowing and lending.
The economists pointed out that in the RBI’s latest monetary policy statement on December 8, governor Shaktikanta Das had emphasized that factors such as a rise in currency in circulation had mopped up a portion of durable liquidity surplus in the banking system in the ongoing quarter.
Moreover, Das also alluded to a compression in the RBI’s balance sheet from pandemic highs, indicating that a large part of the excess liquidity sloshing around the system during the pandemic had already been tackled by the central bank.
Excess liquidity poses inflation risks.
“The way I look at it is that the RBI seems to be happy with the state of liquidity. They have given an indication that in the last two months there were no open market operation sales because the system was generally in a deficit,” said Madan Sabnavis, chief economist, Bank of Baroda.
With the liquidity deficit having widened sharply during the festive season, the overnight call money rate, which is what the RBI targets
