India’s central bank, the Reserve Bank of India (RBI), has opened discussions on the potential reintroduction of daily repurchase operations as part of efforts to alleviate a growing cash crunch that has been hindering the effective transmission of its monetary policy. These talks come as the RBI seeks to stabilize the banking system and better align banks’ borrowing costs with the central bank’s key policy rate.
The discussions focus on providing a more predictable flow of funds within the financial system to support growth, according to sources familiar with the matter. While talks are still in the preliminary stages, the central bank is seeking feedback from market participants to determine the feasibility of reintroducing this tool.
Currently, overnight borrowing costs for lenders remain above the RBI’s benchmark rate, complicating the central bank’s efforts to maintain an accommodative policy stance aimed at spurring growth. The liquidity shortage, which is particularly concerning given the country’s forecast to experience the slowest economic expansion in four years, has led to a significant liquidity deficit. In January, banks’ borrowings from the RBI surged past 3 trillion rupees ($34.6 billion), marking the highest liquidity deficit since 2010.
To address this issue, the RBI’s existing liquidity model utilizes a 14-day cash window, with intermittent shorter-tenure funds being provided or absorbed. However, the move away from daily repurchase operations in February 2020 had previously shifted the focus from targeting a specific level of cash in the system.
In what appears to be a return to more routine operations, the RBI indicated last month that it would begin conducting daily cash infusions through variable repurchase auctions, at least temporarily. This step is part of a broader strategy to ease the liquidity squeeze amid increasing foreign outflows and concerns related to global trade uncertainties, such as the potential impact of U.S. trade tariffs.
India’s banking sector began facing tighter liquidity conditions from mid-2022, after the RBI raised interest rates to curb inflation following extensive cash injections during the COVID-19 crisis. As the economy reopened and loan demand outpaced deposit growth, the liquidity crunch became more pronounced, further exacerbated by the RBI’s efforts to shield the rupee from global financial pressures through dollar sales.
In addition to these liquidity measures, market participants have suggested that the RBI consider adjusting the timing for calculating the mandatory cash reserve ratio that lenders must maintain with the central bank. Specifically, banks have asked for the calculation deadline to be brought forward from 11:59 p.m. to prevent setting aside reserves for funds that are held as a precautionary buffer.
The potential reintroduction of daily repurchase operations and these other adjustments represent critical tools in the RBI’s ongoing efforts to stabilize India’s financial system amidst growing liquidity challenges and external economic pressures.
