Tightening liquidity in the banking system has pushed up short-term borrowing rates and prompted the Reserve Bank of India (RBI) to inject funds into banks, according to a report by ICICI Bank. Rising oil prices are adding pressure on government bond yields at the same time. The banking system's surplus liquidity stood at Rs 50,000 crore, or 0.2% of net demand and time liabilities (NDTL), on 23 October.
The RBI has started conducting variable-rate repo (VRR) auctions to provide short-term funds to banks, including a seven-day operation worth Rs 1 lakh crore. The report said surplus liquidity fell sharply because of Goods and Services Tax (GST) payments, higher cash reserve requirements and other factors.
MONEY MARKET RATES RISE ACROSS THE BOARD
The tighter cash position pushed the weekly average call rate, the rate at which banks borrow from one another for short periods, up to 5.70%. The rate was 5.48% in the previous week.
The average market repo rate also rose, to 5.66% from 5.37%. The triparty repo rate increased to 5.65% from 5.55%.
WEAK DEMAND AT GOVERNMENT BOND AUCTION
The average cost of government borrowing at the auction rose by 20 basis points to 7.60%. The bid-to-cover ratio stood at 1.9, below the long-term average of 2.8. According to the report, weak demand at the Centre's government securities auction reflected negative market sentiment.
Government bond yields have also come under pressure as oil prices rise amid the ongoing conflict in West Asia, which is raising concerns about inflation and the possibility of higher interest rates. ICICI Bank cautioned that elevated oil prices could weigh on bond prices.
WHAT COULD EASE THE PRESSURE
Government spending towards the end of the month and the maturity of government securities worth Rs 35,400 crore could release funds into the banking system, easing pressure on short-term rates. ICICI Bank expects the RBI to continue its liquidity operations.
In the near term, ICICI Bank expects the 10-year benchmark government bond yield to trade between 7.40% and 7.60%. Markets will also watch the US Federal Reserve's policy decision this week, along with decisions by the European Central Bank and the Bank of Japan and US third-quarter GDP data, the report said.
Related: Reserve Bank of India halves liquidity surplus through bonds and swaps