Sunday, January 4, 2009

Rupee Liquidity: RBI measures to improve situation

The global financial down turn that plagued the market worldwide has its repercussion on Indian economy too where the private sector are left in lurch with liquidity crunch, thus limiting the scope to develop or invest further. To help these aggrieved investors, RBI announced a number of policies in its mid term review in October and as a part of liquidity control policy in September and November. These can be broadly classified as monetary measures to ease the Rupee Liquidity and Foreign Exchange Liquidity.

The measures taken to improve the liquidity condition can be listed in the following points:
1. The Cash Reserve Ration (CRR) has been reduced by a cumulative 3.5 percentage points of net demand and time liabilities (NDTL) since October 11 2008. Accordingly, the CRR has been brought down from 9 per cent to 5.5 per cent of NDTL.
2. The Statutory Liquidity Ration (SLR) has been reduced by 1 percentage points, this is, from 25 per cent of NDTL to 24 per cent.
3. A term repo facility for an amount of Rs. 60,000 crore has been instituted under the liquidity adjustment facility to enable banks to ease liquidity stress faced by mutual funds (MFs) and non-banking financial companies (NBFCs) with associalted SLR exemption of 1.5 per cent of NDTL.
4. The Reserve Bank provided an advance of Rs. 25,000 crore to financial institutions under the Agricultural Debt Waiver and Debt Relief Scheme, pending release of money by the Government.
5. The Reserve Bank has put in place a mechanism to buy back, dated securities issued under the Market Stabilisation Scheme (MSS) so as to provide another avenue for injecting liquidity of a more durable nature into the system.

Forex Liquidity
1. The Reserve Bank announced that it would continue to sell foreign exchange (US dollars) through agent banks to augment supply in the domestic foreign exchange market or intervene directly to meet any demand-supply gaps.
2. The Reserve Bank announced that it would institute special market operations to meet the foreign exchange requirements of public sector oil marketing companies against oil bonds when they become available.
3. External commercial borrowings (ECBs) up to 500 million US dollar per borrower per financial year were permitted for rupee expenditure and /or foreign currency expenditure for permissible end-uses under the automatic route.

Introduction to Economic Terms Involved

Liquidity is the availability of cash and other cash like marketable instruments that help in purchasing and investment. In economics the liquidity constitutes the money supplies that are held by the public.
Liquidity also refers both to that quality of a business which enables it to meet its payment obligations, in terms of possessing sufficient liquid assets; and to such assets themselves.

Liquid Assets

The liquid marketable assets constitutes currencies and notes with public and private sector, cheques, credit cards, demand drafts issued from savings and current accounts, bentures, bonds, deposits and other secondary market investment are slow considered as constituents of liquidity. Swaps, future options and other stock market derivatives are also considered as liquidity enhancing factors in the economy.

Cash Reserve Ratio (CRR)

Cash Reserve Ratio (CRR) is the ratio of cash reserves that the banks have to maintain with RBI.

Statutory Liquidity Ratio (SLR)

Apart from CRR, banks have to maintain minimum liquid asset in the form of cash, gold and approved securities, mostly government securities. This ratio is known as Statutory Liquidity Ratio (SLR).

Net Demand and Time Liabilities (NDTL)

The customers and the private sectors and other units put their savings with banks in the form of deposits which may be in the savings account or current account. These savings may be put in the form of time deposits or may be just put in savings. Thus the money supply in this form is re-used by the banks in issuing demand drafts and other forms of monetary obligations thus increasing the money supply in the economy.

Non Bank Financial Companies (NBFCs)

Non Bank Financial Companies are financial institutions that provide banking services without meeting the legal definition of a bank, i.e. one that does not hold a banking license. Operations are, regardless of this, still exercised under bank regulation. The institutions like LIC, GIC, EPF, UTI, post offices, developmental financial institutions are some of the examples of NBFC operative in India.