The Reserve Bank of India (RBI) has announced that it would continue to conduct Open Market Operations (OMO) for buying back securities during the second half of the current fiscal year, as and when considered necessary. The objective is to inject funds into the system to help banks purchase new issues. It is a violation of the Fiscal Responsibility and Budget Management Act in spirit.
Due to surplus liquidity, banks have not been enthusiastic about the buyback operations; it is a buyers’ market now. The high SLR investment-deposit ratio, a fear of interest rates rising and securities depreciating and many banks reaching the limits for the ‘held to maturity’ category in their portfolios of gilts that are not marked-to-market are additional factors that explain the situation. Why should they give up high-yielding gilts when the cash proceeds can be parked only in low-yielding reverse repos? So banks have tried to maximise their incomes through treasury operations by quoting high prices for securities when they sell them to RBI in its Debt Management Operations (DMO), euphemistically called OMO, and then try to buy them low when new bonds are floated.
To give one example, the RBI purchased the 2016 Government Stock (7.59 per cent) on May 7,2009 at the cut-off price of Rs 105.99 and sold new re-issues of the same bond on May 28 at Rs 103.44 thus incurring a loss eventually borne by the nation. The buyback operations of RBI were not an unqualified success. During April-September 2009 the amount notified for purchase was Rs 91,500 crore and the banks offered tenders for Rs 1,50,782 crore working out to a bid-cover ratio of 1.65. A ratio below 2.0 is generally considered to be indicative of a weak demand. The amount accepted was Rs 57,487 crore or about two-thirds of the notified amount. The low acceptance was the result of the RBI finding many bids unacceptable.
The buyback of securities would only help in raising the yields in the bond market because they set the benchmark for the subsequent fresh issues. A reduction in Cash Reserve Ratio (CRR) is preferable to achieve the aim of providing liquidity, when considered necessary. (Forget about the money multiplier!) It has a cosmetic advantage over debt buyback. The latter will show up as an addition to net RBI credit to government; it is not so in the case of CRR reduction.
A Seshan, on email
