Cash crunch pushing up funding costs in India deterring more RBI hikes

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A cash crunch driven surge in funding costs in Indian money market to a five-week high may deter the nation’s central bank from hiking benchmark policy rates.

The weighted average call rate, an overnight funding cost rate the central bank monitors, was at 6.78% on Wednesday, above the upper band of the Reserve Bank of India’s interest rate corridor, of 6.75%. 

The higher overnight rate is almost equivalent to a rate hike, even though the RBI paused in the April policy, according to Kaushik Das, chief India economist at Deutsche Bank AG. That may mean there is no justification for more hikes with the April inflation print also likely to sharply ease, Das said.

Excess cash that banks park with the RBI has dwindled to 788 billion rupees, from as high as 9 trillion rupees in 2022, driving up the funding costs. However, the liquidity crunch may ease soon as the central bank’s dollar purchases in the forex market is adding cash and its dividend payment to the government is due. 

“The current liquidity tightness phase is being driven by diminishing core liquidity unlike previous recent episodes which were more owing to higher government cash balances,” said Suyash Choudhary, head of fixed income at Bandhan Asset Management. “Thus this requires more permanent solutions and cannot be termed as ‘frictional.”

First Published: May 11 2023 | 1:31 PM IST

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