Advance tax to further squeeze liquidity: Reddy

The Reserve Bank of India (RBI) governor Y V Reddy today observed that the liquidity in the system may be under pressure in the short term owing to advance tax payments.

Highlighting the market conditions, he said the Indian financial markets are exposed to risks arising from global imbalances and high crude oil prices.

The perceived risks arise mainly out of global imbalances and outlook for oil prices, particularly in the light of emerging geo-political situation, he said.

According to him, most market participants sense these risks but this sentiment does not appear to be reflected in the pricing of risks. He was addressing the Global conference of actuaries. This statement jerked the bond market and prices in the government securities immediately fell by 25-30 paise.

After a while, the announcement that the RBI has commenced active open market operations (OMO) on the National Dealing System (NDS) OM operations and these could be intensified at appropriate time perked the sentiment of the market.

This development follows the implementation of the Fiscal Responsibility and Budgetary Management (FRBM) Act in the new fiscal and will see RBI as a secondary market player in government securities, market players said.

This is a significant development at the time when the market needs support from institutional players .

Turning to the short-term outlook for the domestic financial markets, he said while the advance tax payments may put some pressure on the market liquidity in mid-march, the central bank can use refinance and the repo window to manage liquidity in the system.

As per a note on market outlook issued by the RBI, the liquidity conditions became tighter from mid-December 2005 due to redemption of India Millennium Deposits (IMD) of $7.1 billion, build-up of Government of India cash balances and sustained growth.

The call money rates which had generally risen since the IMD redemption's have shown distinct signs of easing since the last week of February 2006.

The governor assured the market that the RBI has range of instruments to manage liquidity in line with the monetary policy stance. The government spending especially by the states is expected to pick up and the banks are expected to take steps to raise deposit growth.

Commenting on the ability to mange Government of India's borrowing programme for 2006-07, he said RBI will manage the programme without any stress.

He also allayed the on the conversion of recapitalisation bonds of the public sector banks into Statutory Liquidity Ratio (SLR) bonds will put pressure on interest rates.