Liquidity eases on govt spending, forex inflows

Liquidity is returning to normalcy in the banking system on the back of the government spending and resumption of foreign exchange inflows. Cash surpluses in the system now aggregate to Rs 3,685 crore, up from Rs 600 crore a few weeks ago and more than Rs 20,000 crore before Diwali.

The government has started spending, which has helped the funds flow back into the system, said dealers. "The government was sitting on huge cash supplies with its balances running about a Rs 20,000 crore surplus with the Reserve Bank of India (RBI). Once the government steps up its spending, funds flow into the system will gather momentum," said a chief dealer with a private sector bank.

Liquidity squeeze is a phenomenon that is witnessed around the Diwali time. This can be underscored by the fact that in November 2002 and October 2003, the call money rates quoted at 6.10-6.65 per cent and 6.10-6.48 per cent respectively.

Even last year call rates jumped to 6.50 per cent, and they almost nudged the 7 per cent mark this year.

Cash surpluses dwindled in the system after companies had withdrawn money to pay annual Diwali bonuses to staff and after the Rs 8,000 crore government bond auction.

This year, however, the RBI took proactive measures of tackling the cash crunch. It has effectively used the market stabilisation scheme option to help the system by retaining some funds.

The central bank cancelled the auctions under market stabilisation scheme for three consecutive weeks aggregating to Rs 15,000 crore, which helped the system to save some cash.

Another factor that added to the cash crunch was thin foreign exchange inflows during the October-November period. In November 2005, foreign institutional investors (FIIs) bought Indian shares worth $677 million after having sold worth $800 million in October.

On the other hand, FII inflows in November 2004 was around $1,497 million on top of $725 million inflows in October 2004.

Last year, when the rupee tended to appreciate steeply on strong forex inflows, the RBI bought dollars from the market and pumped in an equivalent amount of rupees into the system. This infused fresh funds into the system, which helped the liquidity remain stable even as the system witness occasional strain.

This year, however, was an exception with the rupee largely remaining weak during the October-November period. Consequently, the system did not witness any rupee supplies by the banking regulator.