Nearly a decade ago I suggested that the government could consider auctioning its surplus deposits in the Reserve Bank of India (RBI) among commercial banks, to relieve the shortage of liquidity. I cited the examples of other countries with a similar practice, Malaysia being one of the successful cases.
The Working Group on Operating Procedure of Monetary Policy (2011) headed by Deepak Mohanty made a similar recommendation. The RBI has approached the government seeking its concurrence for the proposal.
One view is that the auctioning of deposits will not make any difference to the liquidity shortage since, instead of borrowing from the Liquidity Adjustment Facility (LAF) through a repurchase agreement, banks will be getting the funds from some other window. But then there is a qualitative difference in alleviating the problem of liquidity in the two cases. For repo operations banks have to offer collateral.
Hence only those banks that have surplus securities under the Statutory Liquidity Ratio (referred to as “surplus banks” hereafter) can avail of the facility; the others cannot. In fact, it is this that enables the surplus banks to exploit the situation, and take advantage of arbitrage opportunities available for re-lending in the call money market, ploughing in the regular banking business, investing in government securities and perhaps doing speculative forex transactions.
The LAF is meant for meeting temporary cash-flow problems and not for those of longer duration. Ironically, it is now utilised by banks that have surplus resources invested in SLR securities for long periods. The recycling of repo funds day after day makes a mockery of the LAF, turning it into a refinance window.
If there is an auction of government deposits, those banks that do not have surplus securities can benefit if they do not have to offer collateral. In fact, there already are large amounts of deposits of Central and state governments in banks. According to the RBI survey of ownership of commercial bank deposits, as of end-March, 2010, Rs 3,06,800 crore was owned by them. There is no collateral required for these deposits, as the government is like any other depositor.
From the point of view of the government, deposits in banks will earn interest on funds unlike those in the RBI. One may argue that interest receipts from repo operations also go to the government at the end of the year in the form of surplus income transferred by the RBI. But it is likely that the rate in the auction is likely to be higher than that of repos, because those banks that are in need of money
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