India Short-Term Rates Drop to Five-Year Low on Rajan Liquidity

  • Government's three-month borrowing cost at lowest since 2010
  • RBI buys 150 billion rupees of bonds via open market operation

India’s short-term borrowing costs dropped to the lowest in more than five years on expectations the central bank’s new liquidity framework will help ease a prolonged cash squeeze in the banking system.

Reserve Bank of India Governor Raghuram Rajan lowered the benchmark rate by a quarter percentage point as expected on Tuesday, but surprised with a series of measures aimed at bridging a liquidity deficit that has dogged funding markets. The cutoff at a government sale of three-month treasury bills on Wednesday came in at 6.8536 percent, a level last seen in November 2010, data compiled by Bloomberg show.

“The policy has made a big paradigm shift in the way liquidity is managed and targeted,” said Badrish Kulhalli, a fixed-income fund manager at HDFC Standard Life Insurance Co. in Mumbai. “It has helped overnight rates to fall which in turn has pushed down short-term yields.”

The RBI pledged to provide liquidity as required, with the aim of bringing the cash deficit at banks closer to neutral from the previous target of 1 percent of their own net demand and time liabilities. It also lowered the rate at which lenders access emergency funds under the central bank’s marginal standing facility and cut the daily balance requirement for banks’ cash reserve ratio to 90 percent from 95 percent, effective April 16.

“Both short and long-term rates are expected to ease in the months ahead,” said Radhika Rao, an economist at DBS Bank Ltd. in Singapore. “A deliberate and focused shift from the current deficit mode to neutrality implies that the same quantum of liquidity will be infused over time, through a combination of government bond purchases or absorbing foreign inflows.”

The yield on government notes due January 2026 fell one basis point this week and on Thursday to 7.45 percent in Mumbai, according to prices from the RBI’s trading system. It has dropped 33 basis points since Feb. 26.

The rupee strengthened 0.3 percent on Thursday to 66.4675 per dollar, paring its steepest weekly slide since the period ended Feb. 19, prices from local banks compiled by Bloomberg show.

The government sold 150 billion rupees ($2.3 billion) of bonds Thursday, in the first auction of the new financial year, according to a statement on the RBI website. The central bank bought 150 billion rupees of bonds through open-market purchases. Bond and currency markets will be shut on Friday for a local holiday.

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