Bond market participants see OMO sales as liquidity surplus surges

Bond market participants expect that the Reserve Bank of India (RBI) might resort to instruments like open market operations (OMO) and foreign exchange interventions to drain excess liquidity from the banking system. Surplus liquidity in the banking system stood at Rs 2.78 trillion on Tuesday, according to the latest RBI data.

“Despite GST outflows, the surplus liquidity remains very large, I think the RBI might use other tools like OMO to drain durable liquidity from the system,” said the treasury head at a private bank.

The six-member monetary policy committee (MPC) will announce the review of the policy on Thursday. While a status quo on both rates and stance is widely expected, the market awaits the central bank’s commentary on the current liquidity scenario.

 

The liquidity in the banking system has improved significantly on the back of government spending.

The RBI has been conducting variable rate reverse repos (VRRR) auctions in order to drain excess liquidity.

On Tuesday, the central bank conducted two VRRR auctions. At the first three-day VRRR auction, banks parked Rs 23,803 crore against a notified amount of Rs 75,000 crore. At the second overnight VRRR auction, banks parked Rs 19,954 crore against a notified amount of Rs 50,000 crore. The RBI did not conduct any auction on Wednesday.

“The RBI has been conducting OMO sales in small amounts, so it’s unlikely they’ll announce official auctions,” said the treasury head at another private bank. “Given the current global situation, the RBI might also decide to keep the liquidity in surplus,” he added.

A section of the market also believes that the RBI might reiterate that they have multiple instruments at their disposal for liquidity management. However, they might not make an official announcement as it might misguide the market.

OMOs are primarily a liquidity management tool used by the RBI. By purchasing bonds, the RBI injects money into the banking system, thereby increasing liquidity. Conversely, by selling bonds, the RBI removes money from the system, reducing liquidity.

During the monetary policy announcement of October 2023, RBI governor Shaktikanta Das talked about the possibility of OMO sales, which spooked the bond market. However, such auctions were not conducted.