Interbank rates for overnight money which are supposed to be closer to the policy rates, in this case the repo rate — the rate at which the central bank lends to banks — have been going widely off the mark in the past three months.
Overnight rates have been between 9.16% to and 7.4% in the past three months, and some days they were swinging wildly during the day, data from Bloomberg shows. This disturbs liquidity management, say traders.
With the repo rate at 8%, an efficient market rate should be between 8.20% and 7.80%. For many days in July, the rate was above 9%, they say. The reduction in the amount of funds that RBI lends under the overnight repo rate to 0.25% of deposits, and the infrequent, or delayed conduct of the so-called term repos for 7-days and 14-days are disturbing the market rates, said traders who did not want to be identified.
"The intent is to provide sufficient liquidity to the markets that means both shortterm liquidity is consistent with main aining the call money rate close to the policy rate," said Raghuram Rajan, governor, RBI, in April.
But the central bank’s efforts through funding the market with term repos, i.e., funds for a longer duration, have not helped. Because the RBI, which believes that the banking system has to be deficient for its interest rate policy to be effective, is behind the curve.
"They are giving (funds) it like a medicine," said an economist.
"RBI has to conduct auctions more frequently. During normal days, the Fed used to be regular to ensure that the sanctity of the policy rate is maintained. Our system needs to evolve."
RBI, which wanted banks to do better forecasting for funds, cut the funds available under LAF to 0.25% of total deposits, from an unlimited amount. "RBI wants banks to do better forecasting of funds," said a trader who did not want to be identified.
"But I don’t think they have a model to get a sense of liquidity in the system. Or is it that they are tightening by stealth?" The central bank, which is moving its monetary policy framework to imitate the developed markets, when it comes to the market, appears to be 'micro managing' the market, say traders.
Also, RBI is confusing the system by selling bonds that reduce liquidity in the system and not releasing funds through repo to compensate for reducing export refinancing, they say.
"There are questions on the credibility of what RBI is saying," said another trader. "After cutting the refinance scheme, RBI has conducted just one repo on that count since June."
The central bank’s rigid stance on how much cash reserve banks maintain on a daily basis is also causing strain in the overnight money market. In July 2013, to reduce the volatility in currency markets, RBI raised the daily CRR to be maintained to 99% from an average of 70%.
That was cut to 95% which is seen insignificant. "The minimum level of CRR that should be kept with the RBI should come down," said a head of trading at an international bank.
ET Bureau
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