Short-term liquidity infusion from the Reserve Bank of India met with positive feedback
The Reserve Bank of India (RBI) recently conducted a Variable Rate Repo (VRR) auction to inject liquidity into the banking system, following a system liquidity surplus that decreased to Rs 2.42 lakh crore on Tuesday from Rs 3.04 lakh crore on July 20. This move is part of the RBI's ongoing efforts to keep the overnight call money rate, which closed at 5.72% on Wednesday, close to the policy repo rate.
The RBI's VRR and Variable Rate Reverse Repo (VRRR) auctions are essential tools for fine-tuning liquidity in the banking system. These short-term operations enable the RBI to manage day-to-day liquidity mismatches without impacting durable liquidity. When the call money rate rises above the repo rate, indicating tight liquidity, the RBI injects funds through VRR auctions; when the rate falls below, showing excess liquidity, it absorbs funds through VRRR auctions.
The alignment of the call rate with the repo rate is crucial for effective monetary policy transmission. By conducting variable rate auctions, the RBI signals its readiness to intervene on both sides of liquidity, preventing the call rate from diverging excessively from the repo rate. This keeps the weighted average call rate (WACR) close to the policy repo rate, which in turn supports effective monetary policy transmission, market stability, and orderly functioning of the short-term money market in India.
Recent VRRR auctions have absorbed liquidity worth nearly Rs 1 trillion over short durations, demonstrating the scale at which the RBI uses this instrument to mop up excess funds and keep short-term rates anchored. The banks, however, are facing challenges in managing their day-to-day operations with the reduced liquidity left in the system, especially with tax outflows during the month.
Dealers have expressed concerns that high overnight rates could negatively impact the transmission of policy rate cuts. The RBI governor, Sanjay Malhotra, has stated that the central bank wants to align the call rate with the repo rate and that the VRRR has helped in this regard. The central bank accepted the notified quantum at a cut-off rate of 5.53% in the VRR auction, with participants bidding Rs 71,902 crore against the notified amount of Rs 50,000 crore.
In summary, the VRR and VRRR auctions by the RBI play an essential role in injecting or absorbing short-term liquidity to keep the overnight call rate close to the repo rate. This supports effective monetary policy transmission, market stability, and orderly functioning of the short-term money market in India. The RBI's assertion that they will operate on both sides of the liquidity management underscores their commitment to maintaining a stable monetary environment.
- The RBI's implementation of Variable Rate Repo (VRR) and Variable Rate Reverse Repo (VRRR) auctions is vital for fine-tuning liquidity within the banking system, helping manage day-to-day liquidity mismatches without affecting durable liquidity.
- When the overnight call money rate rises above the repo rate, indicating tight liquidity, the RBI injects funds through VRR auctions; conversely, when the rate falls below, showing excess liquidity, it absorbs funds through VRRR auctions.
- The alignment of the call rate with the repo rate is crucial for effective monetary policy transmission, preventing the call rate from diverging excessively from the repo rate and supporting market stability.
- The RBI's decision to conduct variable rate auctions signals its readiness to intervene on both sides of liquidity, keeping the weighted average call rate (WACR) close to the policy repo rate that, in turn, supports effective monetary policy transmission in the economy.
- The banks are facing challenges in managing their day-to-day operations due to the reduced liquidity left in the system after the RBI's VRRR auctions, especially with tax outflows during the month.
- Dealers have expressed concerns that high overnight rates could negatively impact the transmission of policy rate cuts, but the RBI's governor has stated the central bank's commitment to aligning the call rate with the repo rate through VRR and VRRR auctions, as this helps maintain a stable monetary environment essential for the continued functioning of the finance, investment, market, and business sectors.
