Will This Liquidity Flow Continue?

Fri, 8 Apr Pre-Open

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On Tuesday, the Reserve Bank of India (RBI) cut its repo rate by 0.25%. This move was along the expected lines. However, what surprised was the RBI's assurance of steady infusion of liquidity. The central bank announced that it would infuse a large amount of liquidity. This will be done through either bond purchases or by buying dollars.

The central bank announced open market operations (OMO) to buy bonds to inject Rs 150 billion into the system this week. And from the data, it seems that the RBI has got this going good.

As an article in Livemint suggests, at the auction of treasury bills on Wednesday, the cut-off yield for the 91-day and the 182-day bills was below 7% for the first time since November 2010. Particularly, the cut-off yield that RBI set on 91-day treasury bills was 6.85%. This was recorded as 0.42% lower than the cut-off at the previous auction on 30 March. Further, the cut-off yield on 182-days bills was set at 6.93%. This was 0.24% down from the level at the previous auction on 23 March.

The above auction helped government borrow Rs 90 billion through 91-day treasury bills and Rs 60 billion through 182-day bills.

But it is not just government. Private firms also benefitted from the above move. It was reported that rates on commercial papers too fell. The rate on the three-month commercial paper fell below 8%. This was recorded as near-four month low levels.

So, the rate cut by RBI have led the interest yields on bonds and commercial paper go down. This has further led to lower borrowing costs for the government and private firms. And finally, lower borrowing costs have led to more borrowings that have ensured sufficient flow of liquidity for the government and private firms.

And this comes as a welcome breather for debt-laden companies. A continuance of the trend could eventually lead to a revival in the investment activity.

However, it is too early to say that the above trend will continue in coming days.

To start with, the question comes that where will the RBI get money to carry out these open market operations? Vivek Kaul has answered this in one of his recent articles. By doing so, he has compared RBI's liquidity infusion measures to the US Fed's quantitative easing or QE, dubbing it as the RBI's 'QE Lite' measures. You can read the entire article here.

Going forward, it will be important to watch out how the banks react to these measures and whether they would now be in a position to pass on the benefits to its customers. Whether or not the banks are able to lend more may depend on whether the banks reduce their lending rates commensurately.

Also, with divergent monetary policies across central banks, debt markets may have a choppy ride going ahead.

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