Nov. 11 (Bloomberg) -- Indian bonds rose on speculation policy makers will step up measures to boost funds in the banking system as surplus cash dwindled.

The 10-year yield fell from near the highest in a week as lenders and securities companies borrowed from the Reserve Bank of India for a second day to meet their daily cash needs. The central bank needs to lower interest rates ``if necessary'' to make loans affordable to companies and consumers, former Governor Bimal Jalan said.

``The liquidity in the banking system is not enough in comparison to the demand,'' said S. Srikumar, chief debt trader at state-owned Corporation Bank in Mumbai. ``Investors are expecting the authorities will take measures to ease the situation before it has any impact on the system.''

The yield on the 8.24 percent note maturing in April 2018 declined 4 basis points to 7.68 percent at the 5:30 p.m. close in Mumbai, according to the central bank's trading system. The price rose 0.25, or 25 paise per 100 rupees face amount, to 103.70. A basis point is 0.01 percentage point.

The central bank lent a net 85.7 billion rupees ($1.8 billion) to lenders and securities companies in exchange for securities as collateral today after 124.4 billion rupees yesterday, daily auction data show.

Measures taken by the central bank and the government in the past month have helped bring the credit squeeze ``under relative control,'' Jalan, 67, who headed the central bank from 1997 to 2003, said in an interview yesterday in New Delhi.

Rate Cuts

The Reserve Bank of India cut its benchmark repurchase rate by a total of 1.5 percentage points in two stages starting Oct. 20 to 7.5 percent from a seven-year high of 9 percent. It also lowered the amount lenders must set aside as reserves to cover deposits by 3.5 percentage points in a month, freeing up as much as 1.4 trillion rupees in cash to ease lending.

``We need to create conditions so that loans are available at interest rates at pre-crisis levels, as other sources of finances have dried up,'' Jalan said. ``I am in favor of further reducing the cash-reserve ratio and the repurchase rate, if necessary.''

Debt Sale

Bonds fell earlier on speculation some investors sold to make room for new securities that will be offered at an auction on Nov. 14. The finance ministry yesterday said it will sell 60 billion rupees of 7.56 percent notes due in 2014 and 40 billion rupees of 7.95 percent bonds maturing in 2032.

Yields touched the highest in almost a week after the central bank yesterday allowed lenders to use so-called oil bonds as collateral to borrow funds from the monetary authority. The move will discourage investors from buying securities in excess of their mandated needs, according to Mahesh Pai, a fixed-income trader at state-owned Canara Bank.

``The measure will equip banks with a new set of bonds they can use to meet their fund needs,'' Mumbai-based Pai said. ``Fresh investments will be avoided in the immediate future which will cause yields to firm up a bit.''

The government yesterday said it issued 220 billion rupees of bonds to three state-owned refiners to help narrow their losses from selling fuel below cost.

The central bank said lenders can use these securities to borrow funds under its daily liquidity adjustment facility.

The cost of five-year interest-rate swaps, or derivative contracts used to guard against rate fluctuations, fell. The rate, a fixed payment made to receive floating rates, declined to 6.61 percent from 6.71 percent yesterday.

To contact the reporter on this story: Anoop Agrawal in Mumbai at aagrawal8@bloomberg.net.

Last Updated: November 11, 2008 07:17 EST