Letters: LAFing stock

In the wonderland of Liquidity Adjustment Facility (LAF) interesting things are happening. Throughout March banks were borrowing from the Reserve Bank of India (RBI) through the repo window claiming to be suffering from a “shortage of liquidity”. Thus, on March 29, 30 and 31, the end of the accounting year, the net amount injected by the central bank into the system ranged between Rs 85,000 crore and Rs 1,06,000 crore. Come April, there is a dramatic transformation from deficit to surplus overnight. On April 5, the net absorption by RBI through reverse repos was Rs 32,510 crore and on the next day, it was Rs 69,625 crore. Banks are known to engage in window dressing in March every year to produce an impressive balance sheet.

The recent trend in LAF may continue for many more days until RBI takes corrective action to save the interest it is paying. The inflow of foreign capital might have also contributed to a spurt in the dollar carry trade resulting in RRs. The distortion of the balance sheets of banks is a serious limitation for RBI in making its projections on the growth in deposits, credit and money supply. It makes a mockery of monetary policy. The RBI should institute an enquiry immediately limited to around 40 banks involved in the transactions and indicate remedial measures in its Annual Policy Review.

A Seshan, on email