The Reserve Bank of India (RBI) conducted a variable rate repo (VRR) auction of Rs 1.25 trillion on Friday in response to a consistent rise in liquidity deficit. This brings the total liquidity infused through auctions this month to Rs 7.75 trillion. Cash-starved banks placed bids worth Rs 11.4 trillion, which is nearly 47% higher than the central bank’s notified amount. In total, the RBI has conducted nine VRR auctions in May.
Expected Improvement in Liquidity Conditions
Experts anticipate a meaningful change in the banking system’s liquidity situation due to the Rs 2.1 trillion dividend transfer from the RBI to the government. Additionally, the cancellation of weekly treasury bill auctions worth Rs 60,000 crore is expected to further improve liquidity conditions. This dividend transfer increases the base money, which has a durable impact. Soumyajit Niyogi, a director at India Ratings & Research, believes that this will alleviate pressure on the banking system deposit and ease the cost of liabilities for banks.
High Demand for Cash at VRR Auctions
During the VRR auction held on Friday, banks submitted bids worth Rs 1.39 trillion, surpassing the notified amount of Rs 1.25 trillion. This high demand for cash from lenders reflects the liquidity tightness experienced this month. Banks were able to borrow the amount at a weighted average rate of 6.56%.
Increasing Liquidity Squeeze and Anticipated Relief
The liquidity deficit has been on the rise, reaching Rs 2.37 trillion on May 22, compared to Rs 1.48 trillion on May 20 and Rs 1.3 trillion on May 19, according to the latest data from the RBI. The average system liquidity for the first 15 days of May was in deficit by Rs 1.2 trillion, in contrast to the surplus of Rs 20,240 crore seen in April. However, bankers expect the cash squeeze to ease next month once the new government takes charge and increases spending. The government is expected to accelerate the buyback of government securities to inject more liquidity, especially after receiving a higher-than-expected dividend from the central bank.
Repo Auctions and Marginal Standing Facility
A repo auction is a mechanism used by the central bank to inject liquidity into the system. When interbank liquidity dries up, banks can obtain overnight liquidity through the RBI’s marginal standing facility.