Indian money market liquidity has started picking up in the past few days, likely due to government spending, a senior banking source told Reuters on Friday.

"There has been an improvement (in the fund situation) in the past few days, possibly because of government spending, although we still have to wait and see as call money is tight today," said the source, who declined to be identified.

Traders at leading banks said that domestic fund supply had also got a boost from the central bank's dollar purchases from the foreign exchange market.

Market participants are worried about fund supply, which had dwindled after recent bond sales and is expected to come under pressure again with more sales in the pipeline and routine tax payments due later this month.

The central bank is due to sell state loans worth Rs 58 billion before March-end, about which traders expect an announcement soon.

Investments in repos have been rising this week, although they fell on Friday as banks held on to their cash to meet reserve requirements on the two-weekly reporting day.

The repo auction on Thursday received investments for Rs 115.85 billion, the highest amount in about two months.

Moreover, the central bank received 21 bids, indicating that funds were spread over several participants instead of being concentrated with a few banks.

But on Friday, the central bank received just five bids for Rs 18.75 billion and one market player even borrowed Rs 350 million at 7.1 percent through the central bank's reverse repo auction.

"Liquidity is tight today, but otherwise it is comfortable," said a trader at a state-run bank, which usually lends funds. "The central bank's dollar buying is one source of inflows."