FRBM era to see RBI plunge into secondary gilts mart

The Reserve Bank of India (RBI) plans to set up a secondary government securities desk by March 2006 to play an active role in the government securities market, monitoring interest rates and assessing liquidity.

According to market sources, to build up the stock of government securities, the central bank may come out with a purchase window to pick up papers from the market. Thus far, RBI did not deal in secondary market activities.

The RBI's involvement in secondary securities market would be the hallmark of the Fiscal Responsibility and Budget Management (FRBM) era beginning next fiscal year, when it ceases to be the government's merchant banker managing its primary debt issues.

At present, the RBI auctions government securities and subscribes to the paper itself to the extent if it remains unsubscribed by market participants such as banks, primary dealers and insurance companies.

Under the new regime, the RBI proposes to offer a underwriting commitment to primary dealers instead of asking them for only a bidding commitment.

In a bidding commitment, the commitment is only to bid in the auction but a primary dealer may or may not pick up the stock if the cut-off yield in the auction does not suit the entity.

However, in underwriting commitment, the primarily dealer will have to pick up the stock irrespective of the cut-off yield. The cut-off yield is the rate at which the government security is auctioned in the primary market.

Under the proposal, the RBI will cease to conduct open market operations through the market stabilisation scheme (MSS). It will, however, be phased out over a period of time.

At present, the RBI has a small kitty of government securities including the short-term treasury bills of the market stabilisation scheme.

To monitor liquidity in the market, the RBI had proposed to float only treasury bills and short term government securities of one or two-year tenure under the MSS.

Moreover, with the government discontinuing private placement of the securities to avoid monetisation (printing money and increasing the money base without actual productivity gain), the stock of securities with RBI has gone down drastically.