BofA Sees Rajan Pouring In Funds as India's Cash Crunch Worsens

  • High 10-year yield preventing drop in lending rates: report
  • Foreign holdings of rupee debt fall 106 billion rupees in 2016

Bank of America Merrill Lynch says India’s central bank should set a schedule for bond purchases to help bring down lending rates amid a cash crunch in the financial system.

The Reserve Bank of India has bought 570 billion rupees ($8.5 billion) of sovereign debt since resuming open-market operations, or OMOs, in early December after almost two years. It plans to buy another 150 billion rupees of notes on Thursday. The benchmark 10-year yield is 82 basis points above the monetary authority’s key repurchase rate that Governor Raghuram Rajan reduced by 125 basis points last year.

“A high 10-year yield has prevented banks from cutting lending rates further” despite the RBI’s easing, BofA economists Abhishek Gupta and Indranil Sen Gupta wrote in a report. They expect the central bank will add another 200 billion rupees through OMOs this month and predict such purchases will rise to 1.8 trillion rupees in the year starting April 1, from 1.1 trillion rupees.

Seasonal factors such as a pickup in credit growth tend to put pressure on interbank liquidity toward the end of the fiscal year in March, driving up money-market rates. The cash crunch has been exacerbated by this year’s outflows of 106 billion rupees from rupee-denominated debt.

“Given the quantum jump in OMO requirement” for next year, “it would be prudent for the RBI to release a quarterly calendar,” the BofA economists wrote in Wednesday’s report, adding the central bank should announce a schedule at its April 5 policy meeting. That “will ensure permanent liquidity is provided throughout the year that is well communicated to the market participants in advance,” they wrote.

The overnight call-money rate, a gauge of interbank funding availability, has averaged 6.64 percent so far this year, up from 6.37 percent during December, data compiled by Bloomberg show. Three-month commercial paper rates have jumped 113 basis points from Dec. 31 to 8.88 percent.

India Ratings & Research Pvt. estimates the liquidity deficit in the banking system, excluding government’s cash balance, averaged 952 billion rupees last week, compared with 232 billion rupees in the first week of January. Maintaining the shortfall at reasonable levels will allow the overnight rate to be “anchored closely” to the repo rate of 6.75 percent, the Mumbai-based BofA economists wrote.

The yield on 10-year government notes fell one basis point to 7.57 percent, according to prices from the RBI’s trading system. It has declined just 21 basis points in the past year. The rupee rose 0.2 percent to 67.2350 a dollar. It has weakened 1.6 percent this year in Asia’s worst performance after South Korea’s won.

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