Banks favour bond route to suck out excessive liquidity
By Joseph Samson
Dec 14, 2009
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Banks want the Reserve Bank of India (RBI) to issue short-term bonds under the market stabilization scheme (MSS) to absorb liquidity instead of increasing the cash reserve requirements.

A bank chief said, "Measures to drain out liquidity are now seen as inevitable. With the revival of both asset prices and inflation, the central bank has sent strong signals that days of easy money policy will soon be over."

The chiefs of various banks are likely to suggest this in their meeting with RBI's deputy governor Subir Gokarn on January 14.

Earlier this week, RBI tightened the ECB norms, which were relaxed a year ago amidst the financial crisis. The ECB tightening may lead to dearer loans for companies.

According to FICCI, the ECB route is often adopted by Small and Medium Enterprises (SMEs) for raising funds, which are otherwise available at a higher rate from the domestic banks.

Banks do not favor increasing the cash reserve requirements to drain out liquidity because that would have an adverse impact on the banks' balance sheets.

The MSS bonds are interest bearing securities meant primarily for investing banks' surplus deposits. Banks invest in these willingly since they yield market related returns and investments in these do not entail capital requirement.

Unlike usual central government bonds, MSS bonds do not impact inflation as the proceeds of these bonds are retained by RBI and not passed on to the government for spending.

Banks are sitting on idle funds as credit demand continues to remain low even as deposits are rising. RBI data reveals that bank credit rose by a meager 10 percent on a year on year basis till November end 2009as against 26 percent a year ago.


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