RBI Likely To Use OMOs And Swaps To Maintain Liquidity

The Reserve Bank of India (RBI) is likely to step up liquidity support in the banking system ahead of the fiscal year-end. The move aims to prevent short-term interest rates from rising sharply and to offset the liquidity drain caused by the central bank’s currency-market interventions.

The move comes at a time when the central bank has been actively selling dollars to support the rupee after the currency weakened sharply following the outbreak of the Iran war. Note that as of now, the market liquidity is estimated to be in surplus of about ₹2.49 lakh crore.

Liquidity Tools To Be Used

Market participants said the RBI has multiple options to infuse liquidity when required. These include:

• Open market operations (OMOs) through government bond purchases

• Dollar-rupee buy-sell swaps with banks

Such operations inject rupee liquidity into the system while allowing the central bank to maintain control over short-term interest rates. The primary objective is to keep system liquidity comfortable and ensure that overnight borrowing costs remain contained.

Economists said the central bank is also trying to keep the call money rate closer to the lower end of the liquidity adjustment facility corridor.

Currency Intervention Adds Pressure On Liquidity

Note that the central bank’s foreign exchange intervention has also affected rupee liquidity in the system. Market estimates suggest the RBI has sold close to $12 billion in the foreign exchange market since the West Asia crisis began. These interventions were aimed at slowing the fall of the rupee.

When the central bank sells dollars and absorbs rupees from the market, it tightens domestic liquidity. This often forces the RBI to conduct liquidity injections to balance conditions in the banking system.

Despite these pressures, the central bank has kept system liquidity at around 1% of net demand and time liabilities (NDTL) during February and March.

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Possible Impact Of RBI’s Move

For the economy, comfortable liquidity can help keep short-term borrowing costs stable for banks. Banks can keep lending without their funding costs rising suddenly. It may also stop government bond yields from moving up too quickly. In simple terms, it helps ensure that steps taken in the currency market do not make money tight in the economy.

Sources:

The Economic Times

MSN