Current a/c numbers to hit Re

OUTLOOK

Call rates likely to hover in the 6.00-6.50 per cent range on account of IMD outflows; The yield on the 8.07 per cent 2017 government paper will be in the range of 7.17-7.21 per cent; The rupee is expected to trade around 45.00-45.20 per dollar.

LIQUIDITY
Dwindling cash situation lingers

The end of 2005 saw the domestic banking system under severe strain as it was starved of cash with no respite in sight.

The RBI had to resort to large injection of liquidity into the banking system even on the last trading day of 2005 despite unwinding of Rs 23,250 crore of market stabilisation scheme (MSS) balances and cancellation of seven MSS auctions aggregating Rs 19,500 crore since November 2005.

The RBI injected Rs 29,785 crore on Friday through the 1-day repo (repurchase) window under liquidity adjustment facilities. It had infused Rs 30,110 crore on Thursday, Rs 26,685 crore on Wednesday, Rs 24,115 crore on Tuesday and Rs 17,680 crore on Monday. The situation is completely in contrast with one in mid-September when the banking system was flush with liquidity of around Rs 36,000 crore.

Traders were hopeful that interest payment of Rs 10,000 crore, expected by December 2005, on a special deposit scheme run for investment by India's largest pension fund, the Employees' Provident Fund, would give a boost to fund supply.

"Even the government, sitting on cash supplies to the tune of Rs 20,000 crore, should start spending to boost domestic liquidity," said a chief dealer at a private sector bank.

Cash surpluses dwindled from Rs 32,745 crore in January 4, 2005, to Rs 2,040 crore in December 2005, reflecting a fall of 93.77 per cent.

Liquidity first came under pressure during Diwali when funds going out of the banking system was higher than usual. Despite the cancellation of various treasury bill auctions under MSS, liquidity continued to be under pressure because of the outflows due to regular government borrowing programme.

Towards December 2005, there was some cash surplus in the system but once again outflows due to advance tax payments to the tune of Rs 20,000 crore coupled with India Millennium Deposits (IMD) redemptions led to a severe liquidity squeeze. Although the redemption of IMDs was a smooth affair, the Rs 33,000 crore outgo has left a big dent on liquidity in the banking system.

MONEY MARKETS
Call rates seen ranged at 6.90-7%

Call rates are likely to open in the 6.90-7 per cent range on Monday although the overnight rate could fall during the week. Dealers expect the government to boost liquidity through increased spending so that the system can absorb the outflows from government borrowing programme scheduled this week.

Call rates ended the year at 7 per cent amid tight liquidity in the system.

The rate has increased from 6.50 per cent in November. "The shrinking of liquidity in the wake of huge outflows on account of redemption of IMDs resulted in call rates touching these levels," said a treasury dealer.

In normal circumstances, repo rate acts as the ceiling for the call rate, as banks needing to bridge temporary mismatch in fund requirements have access to RBI's repo window. Call rates usually straddle between 5.25-6.25 per cent when there is adequate liquidity in the system.

Call rates began the year around the then reverse repo rate of 4.50 per cent. The central bank increased the reverse repo rate by 25 basis points each in the annual monetary and credit policy in April and in the mid-term review in October to 5.25 per cent.

The spread between the reverse repo rate and the repo rate liquidity adjustment facility (LAF) was maintained at 100 basis points with the repo rate at 6.25 per cent.

One of the major developments for the call money market in this calendar year was the introduction of second liquidity adjustment facility (LAF) in November 2005 for better liquidity management. In November, RBI said that as a corrective step, the central bank would introduce a second round of LAF.

INFLATION
In the moderate range

The wholesale price index for the week ended December 17 increased to 4.62 per cent from 4.50 per cent, mainly due to higher prices of rubber and naphtha. The inflation rate stood at 6.44 per cent during the corresponding week of the previous year.

Recently, Finance Minister P Chidambaram in his mid-year review in the Parliament, indicated that the GDP would be around 8 per cent for the year ending March 2006, buoyed by the first half overall GDP growth of 8.1 per cent. He also cautioned that inflation of 5 per cent was unavoidable for India.

GOVERNMENT SECURITIES
In the groove

The government securities market would be ranged till the domestic banking system recovers from the existing cash crunch. Dealers expect the government to spend a sizeable sum this week to equip the money market to absorb the auctions for the government's regular borrowing programme.

The yield on the nine-year government bond is expected to trade around 6.95-7.00 per cent. Similarly, the yield on 8.07 per cent 2017 government stock is expected around 7.15-7.20 per cent.

These government bonds will find some resistance at these levels, said a trader at a primary dealer. The long-tenure government bonds look stable. There could be some activity as banks would have closed their books for the third quarter ended December 31, 2005.

CORPORATE BONDS
Volumes remain low

The current spread on a five-year AAA-rated corporate bond stands at 73.56 basis points and is likely to remain flat this week. Volumes, however, will continue to be marginal in the corporate bond market, say traders.

With cash supplies having tightened in the domestic banking system, cost of debt for India Inc has continued to rise sharply.

The spreads on short-term corporate bonds, which is the difference in yields between corporate bonds and government securities, has continued to rise significantly. For AA+ rated paper, spreads have gone up to a whopping 107 basis points last week and 122 basis points for AA rated paper in the same period.

As per RBI valuation guidelines, illiquid corporate securities are valued at 50 basis points over and above the prevailing yield of the government securities of the same tenure. However, in case of the actively-traded corporate bonds, the prevailing market yield could be used to market those securities.

CURRENCY MARKETS
Bloating deficit hangs heavy

The rupee, it appears, would trade around 45.00-45.30 per dollar. The rupee may turn weak on the back of a bloated current account deficit of the country.

Recap: The rupee reported an 11-week closing high on the last trading day of 2005 at 45.03, but the currency still ended 3.5 per cent weaker in the reporting year. The Indian currency has registered its first annual depreciation in 4 years.

Overseas portfolio investments at a record of some $10.6 billion in 2005, have helped offset downward pressure on the rupee this year from a widening trade deficit and the dollar's broad gains. The rate of volatility of the domestic currency as against the greenback increased from to 2 per cent in 2005 from 1.5 per cent a year ago.

This increase in volatility rate is relatively lower than other currencies such as euro and yen facing volatility of 10-12 per cent.

The rupee was quite volatile in 2005. It touched the year's high of 43.32 and a low of 46.30, showing a movement of 6.43 per cent. The main determinants were forex inflows, US interest rates and crude oil prices.

The country's current account deficit in the second quarter ending September 2005 more than doubled to $7.6 billion from $3.4 billion a year ago. Despite support from surplus in invisibles at about $8.5 billion, the current account deficit expanded further to $7.66 billion in Q2 on account of a large trade deficit.

The current account deficit ballooned to $12.95 billion in the first half from $485 million in April-September 2004. The trade deficit for Q2 to $16.2 billion from $9.62 billion in July-September 2004 on a surge in capital goods imports and on an inflated crude oil bill.