Tax payments: spurt in quarter-end activity may squeeze liquidity further

Interest rates on term deposits, money market instruments could go up further, even as RBI may conduct repo operations to maintain liquidity in the system

The remaining three weeks of the month are likely to see further pressure on liquidity due to payment of advance tax by September 15, and a spurt in credit offtake towards the end of quarter (Q2FY23). This could push up interest rates on term deposits and money market instruments further, even as the Reserve Bank of India may conduct repo operations to maintain adequate liquidity in the system.

Bankers and money market dealers said the surplus liquidity in the system has already declined sharply till date in FY23 after a change in RBI's policy stance, which began with the withdrawal of accommodation.  

The net amount absorbed through various liquidity windows was down to Rs 1,38,959 crore on September 8, from Rs 2,22,922 crore on June 30, and much below than Rs 3,99,148 crore on March 31, according to RBI data.

Bankers said besides the decline in surplus liquidity, the gap between the pace of fund mobilisation (mainly deposits) and the rate of credit offtake is also adding to pressure on liquidity (see table). The outgo on account of the second tranche of tax payments is estimated to be about Rs 1.5 trillion.

A S Rajeev, managing director and chief executive, Bank of Maharashtra, said there may be pressure in the short term this September due to tax outgo and elevated credit growth, which is ahead of pace of deposit mobilisation. The deposit rates could rise by 25-50 basis points.

Concurring with Rajeev’s assessment, Madan Sabnavis, chief economist, Bank of Baroda, said liquidity can become tight as tax payments happen. There may be an elevated period for interest rates and greater volatility in the market, but it would be manageable. The money from taxes will come back into the system by way of government expenditure and this will ease liquidity conditions later.

The RBI's foreign exchange operations (aka infusing dollars to contain volatility in the currency market), which mopped up rupee resources, have also contributed to tightening of liquidity conditions. Foreign currency assets have declined by $48.6 billion (Rs 1.67 trillion) till September 02, since the end of March.  

RBI’s State of Economy report in August 2022 commented that muted government spending in the face of buoyant GST and direct tax collections contributed to the decline in overall surplus liquidity in the system.

Push for bulk deposit rates

Reflecting the clamour for raising money amid dwindling liquidity, banks have been raising deposit rates, including those on bulk money, (deposits of Rs two crore and above). The country’s largest lender, State Bank of India (SBI), raised interest rate on bulk deposits by 25-100 basis points across maturities in August.

Pointing to intense competition for money, a senior SBI executive said it is a hot market these days. There will be more pressure this month due to advance tax payments, for hiking rates up. While doing so, the bank has to see its effect on interest margins.

Banks are often using Certificate of Deposit (CD) Route–bulk deposit to raise resources. The rates rose from a band of 5.38-6.19 per cent in mid July to 5.66-6.51 per cent by August 26, RBI data showed.