Mumbai, Oct. 7: The Reserve Bank of India on Monday cut the marginal standing facility (MSF) rate by 50 basis points to 9 per cent and introduced another instrument to shovel funds into the cash-starved system.
The cut in the MSF trims the overnight rate at the so-called “window of last resort” for banks when they face an acute shortage of cash. On October 4, banks had borrowed Rs 38,718 crore from the RBI’s MSF window.
It also announced plans to inject further liquidity into the financial system by introducing two term repos of 7-day and 14-day tenures for a notified amount equivalent to 0.25 per cent of the net demand and time liabilities of the banking system. The variable rate auctions for these term repos will be held every Friday beginning from October 11.
Sources from the banking system said this would translate into an infusion of around Rs 19,000 crore into the system.
In mid-July, the RBI had raised the MSF rate by 200 basis points to 10.25 per cent as a measure to prop up the battered rupee which tumbled to an all-time low of 65.85 against the dollar in late August.
On September 20, the new RBI governor Raghuram Rajan stunned the Street by raising the repo rate by 25 basis points to 7.50 per cent and peeling back the MSF rate by 75 basis points to 9.5 per cent.
Today’s decision to cut MSF further to 9 per cent underscores Rajan’s commitment to gradually relax the liquidity-tightening measures adopted in July.
The repo is the rate at which banks borrow from the RBI against government securities.
Rajan has already indicated that he intends to return to the interest rate corridor that places the repo in the middle with MSF ruling 100 basis points above it and the reverse repo a 100 basis points below it.
The latest cut puts MSF at a 150 basis points above the repo, sharply down from the 300 basis points in July.
The central bank also cut the bank rate — which tends to move in tandem with MSF rate — to 9 per cent.
The bank rate is a little used monetary tool. It is largely used now as a benchmark to calculate the penal interest that banks must pay for any shortfall in their mandatory reserve requirements.
For instance, banks must maintain a 4 per cent cash reserve ratio and a 23 per cent statutory liquidity ratio. Shortfalls in these reserve requirements entail penalties depending on the duration.
On September 20, the penal rate for shortfalls was cut to bank rate plus 3 percentage points, or 12.5 per cent, for short-duration shortfalls, and bank rate plus 5 percentage points, or 14.5 per cent, for slightly longer durations. Both penal rates will now come down by 50 basis points because of the cut in the bank rate.
The announcement of these measures, which will bring down the cost of fund for banks, came on a day the RBI infused Rs 9,974 crore into the banking system through the purchase of government securities through open market operations (OMO).
The central bank said these measures were part of a calibrated withdrawal of the measures undertaken since July to protect the rupee.
The RBI had introduced tightening measures in July to ensure that rupee liquidity did not flow into the forex markets and, thereby, influence the exchange rate in favour of the dollar.
Since he took over as governor, Rajan has also relaxed the daily maintenance of the cash reserve ratio (CRR) requirement to 95 per cent from 99 per cent earlier.
CRR is that portion of bank deposits that must be maintained with the central bank.
Bond market circles said that since then while the rupee had recovered over 10 per cent, the recent shutdown crisis in the US would bode well for the domestic currency since it would delay the QE tapering.
“Today’s steps were taken as the RBI is confident that the rupee will not come under pressure because of the developments in the US,” a senior banker said.
Mohan Shenoy, chief treasurer at Kotak Mahindra Bank, said the measures taken by the RBI today would spark a rally in government security prices, particularly at the short-end. However, he added that there was uncertainty in the market over the trajectory of the repo rate.
Many expect a further hike in the repo rate to fulfil the commitment to maintain a spread of 100 basis points with respect to the MSF rate.