Reserve Bank of India to Launch New Liquidity Framework
The Reserve Bank of India (RBI) is poised to announce a revised liquidity management framework in its upcoming monetary policy next week, as per sources close to the development. The new framework is expected to provide greater predictability on overnight rates and anchor short-term liquidity more effectively.
The central bank has been meeting with market participants, including senior bank officials and primary dealers, to gather feedback on the proposed framework over the past three months. The RBI met with market participants, including senior bank officials and primary dealers, on Monday, and economists last week, sources said.
The new framework is likely to operationalize the seven-day variable rate repo as the main liquidity tool, reintroduce a fixed-rate repo window worth 1% of banks’ net demand and time liabilities, and introduce a new market benchmark called the Secured Overnight Reference Rate (SORR) based on the Tri-Party Repo Market (TREPS) market.
Market participants have been seeking greater transparency and stability in short-term funding costs, particularly as the call money market and the existing Mumbai Interbank Offered Rate (MIBOR) benchmark have lost relevance. The RBI’s shift towards using the seven-day VRR as the primary liquidity management tool and replacing the longer-tenure 14-day operations that had gained prominence under the Urjit Patel-led monetary framework is expected to provide greater flexibility in forecasting liquidity and avoid interim mismatches.
‘The governor did say that by month-end they will come out with the new liquidity framework. We will have to see what they will come out with. Market will get more clarity on how overnight rates will behave,’ a treasury official said.
Bankers believe that the seven-day tenor gives them more flexibility in forecasting liquidity and avoids interim mismatches, making it easier to recalibrate weekly. They also said that the RBI has been experimenting with one-day and three-day windows lately and has been receiving good response.
Along with shorter tenors, banks have also requested the RBI to reintroduce a fixed-rate repo facility, which will be available on tap, up to 1% of their Net Demand and Time Liabilities (NDTL). This mechanism had existed years ago and had offered assured access to liquidity at the policy repo rate, reducing the need for banks to borrow from the more expensive Marginal Standing Facility (MSF) or uncertain VRRs.
‘If banks can borrow a certain assured amount at the repo rate any time, it will help reduce day-end rate volatility,’ a senior economist said.
Currently, most VRRs are variable rate and conducted at market-determined levels, often slightly higher than the repo rate. Another major development expected is the formal announcement of the SORR, a new benchmark rate based on transactions in the triparty repo market.
This would mark a shift away from MIBOR, which has historically been used to price derivatives and loans but is no longer seen as fully representative of overnight funding conditions. ‘With the move away from LIBOR globally, MIBOR has lost its relevance. Since most short-term activity today happens in the TREPS market, it makes sense to derive a secure overnight rate from it,’ the last person quoted above said.
The RBI has previously flagged the need for an alternative to MIBOR and may formalise SORR in the upcoming policy. Liquidity conditions in the system have improved in recent weeks, but market participants remain uncertain about the RBI’s preferred operating target.
Governor Sanjay Malhotra’s increased focus on stabilising overnight rates, rather than longer-term liquidity metrics, has marked a shift from the Urjit Patel-era approach, which emphasised creating a short-term yield curve through longer variable-rate operations.