India's central bank has been cutting the cash reserve requirements for banks as part of financial sector reforms that began in the early 1990s and is aiming to bring the level down further following talks with the International Monetary Fund.
The Reserve Bank of India (RBI) has already cut reserve requirements a number of times since November 1995, the treasury head of a state-run bank said.
These have greatly improved liquidity and eased call money rates.
Analysts said prospects for liquidity and stability in the call money market were good, as the Reserve Bank of India is committed to cutting reserve requirements to 10 per cent by March 1997.
At present, banks in India are required to maintain cash reserves of 12 per cent on their net demand and time liabilities.
The 10 per cent target is part of the financial sector reforms and is in line with suggestions put forward to the government by the IMF, analysts said.
Lower cash reserves release funds for banks to lend and reduce their immediate requirements for cash balances to be maintained with the RBI.
According to ICICI Securities & Finance Company, a sum of $4.71 billion held by the central bank was freed in a series of reserve ratio cuts by the RBI between November 11, 1995 and July 6, 1996.
The RBI cuts came in response to slow monetary growth in 1995-96 (April-March).
As monetary growth somewhat moderated in the second half of 1995-96, several steps were taken to enlarge the capacity of banks to lend, RBI governor Chakravarty Rangarajan said in a recent speech to bankers.
This essentially took the form of reducing the cash reserve ratio in general and in relation to non-resident deposits.
Bankers said while cuts in reserves had increased their lendable resources and were welcome, they came about at a time when demand for credit was low.
The result has been a steady pick-up in investments, particularly in short-dated money market instruments, such as, treasury bills and commercial paper, analysts said.
Investments tend to pick up when call money is cheaply available, said Aashish Pitale, analyst at I-Sec.
Banks are parking funds in assets as demand for credit is low, he said.
Bank investments in securities rose to Rs 1,742.22 billion on August 16 from Rs 1,664.02 billion on March 29, according to RBI data.
Bank credit, on the other hand, fell to Rs 2,494.41 billion from Rs 2,533.15 billion in the same period.
