Tamal Bandyopadhyay: State Bank of India's IMD windfall

Unless there is a dramatic fall in the rupee value vis-à-vis dollar over the next few days, the State Bank of India (SBI) is sure to have a windfall next week when Rs 33,000 crore worth of India Millennium Deposits (IMDs) are due for redemption.

The rupee closed at 45.21 to a dollar on Tuesday. In December 2000, when the SBI raised $5.5 billion IMDs from the global markets, the rupee was trading at 46.65 to a dollar. This means, for the repayment of every dollar, the SBI will gain Rs 1.44. In other words, for an outflow of about $7.5 billion (principal plus interest), the bank will gain over Rs 800 crore.

On earlier occasions, both for India Development Bonds (IDBs) in 1991, and Resurgent India Bonds (RIBs) in 1998, the bank had to bear the exchange loss as the Indian unit lost substantial ground against the dollar. Over $4.2 billion RIBs were raised in 1998, when the rupee was trading at 42.76 to a dollar. By 2003, when they were redeemed, the rupee value per dollar went down to 46.16. Similarly, when India Development Bonds "" the first quasi-sovereign paper "" were issued in 1991, the rupee value was 26 per dollar. In 1997, when they were due for redemption, the Indian currency had lost about 33 per cent.

While this is good news for the country's largest commercial bank, the entire financial system is turning jittery as the day of the redemption approaches (December 29). This is because of the gradual tightness in liquidity.

The entire banking system's surplus cash is zero at this point of time and the Reserve Bank of India (RBI) has infused over Rs 9,000 crore into the system through its repo window at 6.25 per cent. The overnight call rates, too, have gone up in sync with the repo rate. At the short end of the curve, the 364-day treasury bill yield has risen from about 5.80 per cent to 6 per cent and at the longer end, the yield on the most-traded 11-year paper has gone up from 7.19 per cent to 7.24 per cent. Banks have been raising one-year money through certificate of deposits (CDs) at 7 per cent. This is because all the players cannot access the RBI repo window. Only those banks that have excess SLR securities can raise money through this route as they need collaterals of government securities for the repo deals. Besides, the access to the overnight money market is also not limitless.

The IMD redemption is the immediate trigger for the tightness in liquidity. There are other reasons as well, and the most crucial of them is the sudden surge in credit offtake in the third quarter of the year. Even though the overall deposit mobilisation in the banking system since the beginning of the financial year is in tandem with the credit disbursal, between October and November, the banking system lent over Rs 50,000 crore while it garnered only Rs 6,000 crore worth of deposits. This has intensified the tightness.

On its part, the RBI has been devising ways to counter balance the strain on liquidity. Beside pumping in money through its repo window, it has been cancelling auctions of treasury bills under the market stabilisation scheme (MSS). At least Rs 18,000 crore worth of MSS auctions have been cancelled. Two forthcoming auctions on December 23 and 30 will also be cancelled, releasing Rs 6,000 crore.

However, this may not be enough to manage the situation as the government has already sucked out about Rs 26,000 crore "" through an auction of a dated security in the first week of this month and advance taxes last week. Unless the government starts spending, this money will not come back to the system.

Under these circumstances, what choices does the RBI have to ease the pressure on liquidity and maintain equilibrium in the system? Apart from unwinding MSS securities and running an active repo window "" which it has been doing "" the regulator can enter into short currency swaps with banks. In other words, it can buy dollars from banks for a specified period and give them rupees. This can work only if banks have excess dollars in their kitty. Similarly, the RBI can buy dollars from the system and release rupee resources. Finally, the RBI can also open a window for open market operations (OMO) and strike one-on-one deals with the SBI. It can buy back the MSS securities from the bank and release cash.

So, the regulator is not short of ammunition to iron out the glitches on the liquidity front. If it wants, it can pump in enough resources to ensure a Merry Christmas for the banking system. Similarly, it may also use this opportunity to signal a subtle shift in its stance. By allowing a gradual tightness, it can create the grounds for a rate hike in April next year when it announces its monetary policy.