The absence of the key driver of economic growth had been felt in the first quarter of the year. Analysts are of the view that the Reserve Bank of India’s tolerance of surplus liquidity suggests it could be gradually gearing up toward a softer monetary policy.
Last week, while emphasising that India’s growth story remains intact after a lower-than-expected expansion of 6.7% in the GDP in June quarter, central bank governor Shaktikanta Das buttressed his statement by saying that government expenditure would pick up pace for the rest of the year in line with budget estimates.
Banking system metrics suggest that the pick-up has been steadily underway for the last couple of months.
Sharp Fall in Centre’s Cash Balance
For all of July, August and so far in September, the banking system has experienced surplus liquidity conditions, with the average amount of funds lenders have parked with the RBI on a daily basis clocking in at ₹1.34 lakh crore, an analysis of central bank data showed. When the RBI absorbs funds from banks it indicates the prevalence of surplus liquidity conditions. From a peak of more than ₹5 lakh crore in May, when elections were in full swing, the government’s cash balance has dropped sharply now, indicating the Centre’s spending push.
“The rise in (surplus) liquidity conditions represents a pick-up in government expenditure post the election,” said Gaura Sengupta, chief economist, IDFC First Bank. “This is reflected in the reduction of the government cash surplus to ₹2.3 lakh crore as of August 2024 from peak levels of ₹5.1 lakh crore as of May 24.”
Banking system liquidity was broadly in deficit mode in May and June.
Spending by the government typically flows through the banking system, thereby increasing cash with lenders, although expenditure reforms by the Centre over the past few years have reduced that float.
Das had said last week that the headline GDP growth number for the first quarter had printed lower than expectation, perhaps due to muted spending by the Centre and states during the general elections, which ended in early June.
Borrowing costs, RBI stance
The easier cash conditions in the banking system over the past two months have brought down the weighted average call rate (WACR), which represents banks’ overnight cost of funds.
“One of the most notable statements in the recent speech by the RBI governor was that the balance for growth and inflation is very well poised. This is a significant shift from the August policy statement where he mentioned unambiguous focus on inflation,” said Anubhuti Sahay, head, India, economic research, Standard Chartered Bank.
“Assuming there are no negative surprises on inflation, I think the comfort with liquidity is likely to remain and that can then move a step forward by bringing a change in stance and then probably rate cuts beginning by the end of the year.”
The WACR, which is the operating target of the RBI’s policy, has averaged 6.38% from July 1 to September 5, 12 basis points lower than the central bank’s repo rate of 6.50%. A basis point is 0.01 percentage point.
The easier liquidity and lower cost of overnight funds has reduced yields on the government’s treasury bills, which are used as pricing benchmarks for various credit products across the economy. From an auction on June 26 to the latest on September 4, yields on T-bills of different maturities have dropped 17 basis points to 24 basis points, RBI data showed.
RBI’s measures
In 2023, when the RBI was faced with an abrupt rise in food inflation in the second half of the year, the central bank was averse to tolerating surplus liquidity in the banking system, given its potential inflationary impact.
In the last few months, the RBI has taken some steps to rein in the amount of rupee liquidity being added to the banking system through foreign flows into debt. The central bank has conducted open market bond sales worth a total ₹18,225 crore through secondary market operations between mid-July and now. However, it has stopped short of conducting large-scale, open-market sales of government bonds through auctions.
Indian debt markets received net inflows worth $4.8 billion in July and August, official depository data showed.