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| The Reserve Bank of India (RBI), in its bid to fine tune the liquidity adjustment facility (LAF), has proposed instituting a standing deposit facility over and above the required cash reserve ratio deposits. |
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| As per the recommendations of the internal report on LAF, the introduction of a deposit facility becomes essential to afford more flexibility to RBI in using the repo facility as a signaling device while not sacrificing the objective of the provision of a floor to the movement of short term interest rates. |
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| However, the group has also acknowledged the fact that the institution of such a facility distinct from CRR for banks will necessitate a suitable amendment to the RBI Act 1934. |
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| Thus, the standing deposit type facility as a tool for residual liquidity management is more efficient as it distinguishes between banks having surplus cash balances from those that are in deficit, said the report. |
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| On the interest rate front, since rates on standing deposit facility is designed to provide a floor to the interest rate corridor, it should be pegged at a rate lower than the repo rate, the report said. |
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| As far as CRR is concerned, the interest rate on CRR may be aligned with the desired interest rate on the proposed standing deposit type facility. |
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| Accordingly, it has been suggested that the interest rate on CRR should be delinked from the bank rate and placed at a rate lower than the repo rate. |
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| In order to cope with future situations of excess liquidity and shortage, it has suggested there could be two rates at which liquidity will be injected and a single rate at which liquidity would be absorbed. |
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| The minimum tenor of the repo and reverse repos under LAF, should be changed from overnight to 7- days to be conducted on a daily basis to enable balanced development of various segments. The minimum bid amount of Rs 5 crore and in multiples will continue for repos and reverse repos. |
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| On the other hand, the bank rate which has lost its significance as a signalling device, will continue to be aligned to reverse repo and, therefore, the entire liquidity support including refinance should be made available at the reverse repo/bank rate. |
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| Thus, the bank rate/reverse repo will therefore continue to provide the upper bound to the interest rate corridor. |
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