Letters: Liquidity crunch

This refers to “RBI announces measures to boost liquidity” (May 27). Banks invested Rs 1,11,956 crore in mutual funds, as on May 7. This money continues to be with the banking system. During the current financial year, non-food credit declined by Rs 21,155 crore, and investment-deposit ratio of banks at 31.52 was higher than the stipulated 25. Incremental SLR investment-to-deposit ratio so far is more than 110 per cent. The system can easily meet the credit requirements of telcos and advance tax payments adding up to around Rs 1,00,000 crore by reshuffling the investment portfolio. Thus, there is no liquidity constraint emerging.

The declining reverse repo transactions have been cited as indicative of a fall in surplus liquidity. Till recently, the banking system, particularly foreign banks, could make tidy profits not only from the interest differential by borrowing abroad and parking the money with the Reserve Bank of India (RBI) but also from the appreciation of the rupee vis-a-vis the dollar. The margin of profit was such as to make it worthwhile after taking into account hedging fees and other transaction costs. Now, with the steep fall in the value of the rupee, the arbitrage profits have evaporated. If the money in reverse repos had originated domestically, it would have been kept with the money market mutual funds since the return is better over there. 

The permission to banks to avail themselves of an additional 0.50 per cent of deposit liabilities from the repo window of RBI does not make for any marked change in the situation given the excess of SLR investments. RBI is the lender of the last resort and banks should approach it only after exhausting the possibilities in the call money market where they can borrow on a clean basis. The trends in the call money rates do not reveal any strains. Collateralised borrowing and lending obligation (CBLO) and market repos carry interest rates much below the RBI repo rate. Since the government will be flush with funds in June due to receipts of 3G spectrum and advance tax payments, it can cancel a couple or more of its market borrowings. The average monthly expenditure of the government is around Rs 92,000 crore. The funds mopped up in June will return to the system soon.

A Seshan, on email