The faster growth in bank credit than deposits is behind the present cash crunch, the Reserve Bank of India (RBI) has said.Year-on-year credit growth was 23 per cent till December 3, while deposit growth was only 15 per cent, as compared to RBI's projection of 20 per cent and 18 per cent, respectively, for 2010-11.
The liquidity deficit, indicated by banks' borrowing from the repo tender of RBI, has been over Rs 1 lakh crore on an average since November.
Low government spending, coupled with slack deposit growth and advance tax outflows, has resulted in the crunch.
On Wednesday, banks borrowed a record Rs 1.7 lakh crore from RBI.
"Our concern when we did the liquidity calculation and on the basis of which we did the SLR action (cut statutory liquidity ratio) is that (tightness) is structural. There is a mismatch between growth of credit and deposits and that is more of an enduring factor in liquidity constraints," said RBI Deputy Governor Subir Gokarn.
'Watching the response'
"We should see deposits increase as people respond to higher interest rates and we will watch over the next few weeks if there is a substantial response," he said, referring to the recent increases in these rates by banks.
The central bank reduced SLR - the proportion of liabilities which banks need to invest in government securities - to 24 per cent from 25 per cent last week.
It also announced buyback of government bonds through open market operations, which could infuse up to Rs 48,000 crore (Rs 480 billion) in the system.
Gokarn said the permanent cut in SLR was in response to the structural liquidity tightness caused by low deposit growth.
"As we move ahead, particularly in this quarter, the gap between growth in credit and deposits widened and that, too, was reflective of a longer-term persistence of this process (liquidity tightness), with the government finance issue padding on to that.
We felt that required more of a long-term view and therefore the decision to cut SLR on a permanent basis," Gokarn said.
With measures in the mid-quarter review of the monetary policy last week, RBI expects the liquidity tightness to come down over time to its comfort zone, which is plus-minus one per cent of the net demand and time liabilities, or Rs 50,000 crore (Rs 500 billion).
"We do have a trajectory which will take the liquidity situation close to the one per cent boundary as we go along. Obviously, that is something we expect to happen over a period of time. It is not something we expect to see overnight," he said.
"A lot of that will start coming back to the system in the first round of year-end, month-end payments. SDS (state development) interest coupons are also due in January and redemptions by end-January and February. Scaling down of government balances is something that we have a clear horizon for," Gokarn said.
Call money rates
RBI is monitoring the impact of the tightness on overnight call money rates and government bond yields and has not noticed any instability.
"We are watching for instability of rates, which are a direct manifestation of severe constraints. Call rates are a little higher than perhaps they should be from the corridor, but they are stable. Ten-year rates (yield) are quite stable," he said.
The 10-year benchmark 7.80 per cent, 2020 bond yield retraced sharply to touch a 11-week low yesterday after touching a 26-month high of 8.21 per cent on December 6, while the call money rate has breached the seven per cent mark in the past few weeks.
A senior finance ministry official said on Wednesday the government quarterly spending was on track and it would not relax any norm to infuse liquidity into the system.
He added the government would adjust cuts in weekly gilt auctions for the remaining sessions till February and would meet the gross borrowing size at the revised target of Rs 4.47 lakh crore for 2010-11.
The government had reduced the size of its December 10 and December 24 auctions by Rs 10,000 crore to ease the prevailing cash crunch in the banking system.
"Salary payments, capital expenditure and even transfer to states have a definite pattern and time frame. We can't artificially release money in an ad hoc manner," the official said. The overall government borrowing size will also remain unchanged.
"Our borrowing is scheduled to end on February 11. We can hold an auction on February 18. We can also raise the weekly borrowing size by Rs 100-200 crore in any of the remaining weeks till February. It will remain under the overall borrowing cycle," he said.