Overnight Indexed Swap Rates Can Be Used To Separate Out Expected And Unexpected Component Of Monetary Policy Says RBI Study

The Reserve Bank of India (RBI) published a study titled Monetary Policy and Financial Markets: Twist and Tango. The Reserve Bank of India has initiated two special market operations - Operation Twist (OT) and Long-Term Repo Operations (LTRO) since December 2019 and February 2020 respectively. These two special operations are designed to ensure comfortable liquidity in the financial system and to facilitate monetary policy transmission. This article analyses the impact of these two sets of special operations on money and government securities (GSEC) markets.

The study shows that the Overnight Indexed Swap (OIS) rates can be used to separate out expected and unexpected component of monetary policy, and therefore, can be deployed to track the impact of monetary policy announcements on longer-term yield. The relationship between OIS rates and GSEC yields indicates that monetary transmission to longer-term yield had dampened since mid-2019. An event study analysis shows that both OT and LTRO had a significant static as well as dynamic impact on GSEC yields of some maturities, thereby facilitating policy transmission.

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