MUMBAI: The Reserve Bank of India (RBI) infused Rs75,772 crore into the banking system on Monday through a variable rate repo (VRR) auction.
The move is aimed at easing liquidity constraints and preventing call money rates – the interest rates at which banks borrow overnight funds – from rising sharply above the repo rate of 6.5 per cent.
This liquidity injection, which will be reversed on Tuesday (today), forms part of the central bank’s ongoing efforts to stabilise overnight borrowing costs.
Additionally, the RBI announced a Rs1.5 lakh crore VRR auction scheduled for Tuesday, indicating its intent to address deeper deficits in the banking system.
What is a variable rate repo (VRR)?
A VRR auction is a mechanism where the RBI lends money to banks for a specified period in exchange for government securities as collateral. Banks bid for these funds at interest rates of their choice, and the RBI accepts the bids based on the prevailing repo rate and market demand. VRRs are primarily short-term measures to manage liquidity mismatches.
On Monday, the RBI held a VRR auction to inject Rs1.25 lakh crore but received offers worth Rs75,772 crore, which it accepted at a weighted average rate of 6.51 per cent.
Why is Liquidity Tight?
Tax Outflows: Monthly tax payments last week reduced available funds in the banking system; Forex Interventions: The RBI’s foreign exchange interventions to stabilise the rupee drained Rs3.8 lakh crore from system liquidity in the fourth quarter of 2024; core liquidity deficit: Core liquidity, which reflects the net cash available after deducting statutory reserves, turned negative for the first time since March 2019.
Impact on call money rates
The weighted average call rate (WACR) closed at 6.60 per cent on Monday, exceeding the repo rate by 10 basis points. This indicates that banks are experiencing higher borrowing costs due to liquidity shortages. Call money rates are a critical benchmark for the interbank lending market, and their rise can signal broader stress in liquidity conditions.
RBI’s strategy
Daily VRR auctions: Since January 16, the RBI has been conducting daily VRR auctions to temporarily inject liquidity. The quantum has increased progressively, with auctions of Rs50,000 crore each on January 16 and 17, followed by Rs1.25 lakh crore on January 22, and Rs1.5 lakh crore announced for January 23.
Potential Durable Measures: While VRR auctions address short-term liquidity needs, market participants expect more lasting interventions such as open market operations (OMOs) or foreign exchange buy-sell swaps.
A report by Nomura suggests that the RBI could consider extending VRR tenors beyond 14 days, conducting FX swaps, or purchasing securities through OMOs to inject durable liquidity. These measures would address the liquidity deficit caused by forex interventions and tax outflows more comprehensively.
With system liquidity recording a deficit of Rs1.61 lakh crore on average in January and a total deficit of Rs1.93 lakh crore as of January 19, the RBI’s actions aim to strike a balance between stabilising call money rates and managing liquidity pressures.
However, the banking system’s liquidity challenges may require more structural interventions alongside these temporary measures.
