Street expects OMOs despite CRR cut

Says purchase of gilts would be necessary as the reduction would not be enough to ease liquidity

Despite the Reserve Bank of India (RBI)’s decision to cut the cash reserve ratio (CRR) by 25 basis points (bps) in on Tuesday’s second quarter review of monetary policy, the Street expects the central bank to resort to open market operations (OMOs) in the near term, such as purchase auctions of gilts, to ease liquidity.

This is because the cut of 25 bps might not make a significant impact on the tight liquidity situation.

CRR is the proportion of total deposits a bank has to keep with RBI as cash.

After the cut, this is at 4.25 per cent of net demand and time liabilities (NDTL), effective the fortnight beginning November 3.

NOT ENOUGH SLACK

• Cash reserve ratio cut too little, feels Street
   
• Daily liquidity adjustment facility borrowing around Rs 1 lakh cr
   
• This cut will infuse barely Rs 17,000 crore
   
• Liquidity tightness likely to go on till at least mid-Jan, if not till March
   
• Hence, open market operations by the Reserve Bank of India inevitable, meaning periodic auction of gilts

The cut will infuse liquidity worth Rs 17,500 crore in the banking system.

“OMO requirement will be there. LAF (RBI’s liquidity adjustment facility) borrowing has been hovering about Rs 1 lakh crore (daily) and this Rs 17,500 crore will not be sufficient to release a good amount of liquidity,” said Vivek Mhatre, general manager (treasury), Union Bank of India.

Mhatre says in the festive season, there is always a tightness in liquidity. Once this season gets over, the marriage season will start, due to which till the second week of January, liquidity tightness will remain in the system.

Under OMO purchase auctions, RBI buys gilts in the open market to enhance liquidity in the banking system.

In this financial year, it has infused Rs 54,573 crore worth of liquidity through OMOs.

According to J Moses Harding, (head, asset/liability committee and economic and market research), IndusInd Bank, the system liquidity deficit is expected to remain above RBI’s tolerance level of one per cent of NDTL till end-March.

There will be a need for OMOs if borrowing by banks under the daily LAF sustains above Rs 1,00,000 crore. This mark was crossed a couple of times earlier this month. Harding said, “There will be a need for OMOs if borrowing by banks under the daily LAF sustains above Rs 1,00,000 crore.”

According to Harihar Krishnamoorthy, treasurer, FirstRand Bank, with the CRR cut, the daily average liquidity deficit should amount to around Rs 75,000 crore, till some spending by the government is resumed.

Banks borrowed Rs 77,475 crore under the daily LAF on Tuesday.

The CRR was six per cent at the beginning of this calendar year and it was brought down to 4.5 per cent in three tranches till September.

The cuts helped to inject liquidity worth Rs 97,000 crore in the system. Harding says CRR will be down at 3.5 per cent by the end of the current financial year.