RBI likely to help ensure smooth borrowing

With bond yields trading high, owing to supply concerns, market participants expect the Reserve Bank of India (RBI) to help ensure that the borrowing in the second half of the current financial year is smooth.

Yields on government bonds jumped after devolvement in the first auction of the second half borrowing plan, as investors stayed away from long-dated papers. “The bond market is firmly in a bearish set-up, driven by (excess) supply concerns. There is no real appetite for RBI’s week-on-week supplies of Rs 12,000-15,000 crore,” said Moses Harding, head (global markets group), IndusInd Bank.

Bankers said currently, there were no liquidity concerns. So far, the liquidity deficit has averaged around Rs 44,000 crore this financial year, which is within the central bank’s comfort level of one per cent net demand and time liabilities. However, going forward, liquidity is expected to tighten.

“Given the government's announcement of a front-loaded borrowing calendar and the currency demand in the festive-season, the banking system liquidity deficit is likely to widen beyond RBI’s comfort level,” said Standard Chartered Bank economists Samiran Chakraborty and Nagaraj Kulkarni. They expect liquidity deficit to widen to Rs 90,000 crore by the end of this month. “We expect RBI to buy Rs 50,000-55,000 crore worth of government securities in the second half of 2011-12,” they said.

The government is scheduled to borrow Rs 2.2 lakh crore in the second half of the current financial year. According to the issuance calendar, RBI would auction around Rs 50,000 crore of government securities in November, which could add to liquidity woes. “In case yields stay high and there are liquidity issues towards the end of this quarter, we expect some announcement in December,” said a bond dealer with a brokerage firm.

Banks that are major investors in government bonds are already over-invested, in the absence of credit takeoff. “Banks are currently holding excess SLR (statutory liquidity ratio), which reduces the capacity to buy more. A bond buyback would surely help them subscribe to new issuances,” said a treasury official of a public sector bank.

However, in a rising interest rate scenario, banks tend to hold most of the government securities in the held-to-maturity category, which prevents marked-to-market losses. Economists at Standard Chartered Bank say for open market operations (OMOs) to be successful, banks should be allowed to mark-to-market a larger proportion of their portfolios, as recommended by the working group on operating procedure of monetary policy.