India cenbank's liquidity framework tweak to lower overnight rate volatility - traders

By Dharamraj Dhutia

MUMBAI (Reuters) - The Reserve Bank of India's (RBI) move to allow banks more flexibility in managing funds over weekends and on holidays will help reduce volatility in overnight rates, several traders said on Friday.

The central bank governor while announcing the RBI's monetary policy review said starting Dec. 30, it will allow banks to move and borrow between the Standing Deposit Facility (SDF) and Marginal Standing Facility (MSF) during weekends and holidays.

Currently banks can park money in SDF and borrow from MSF on holidays, but can reverse those transactions only on working days.

"It is expected that this measure will facilitate better fund management by the banks. This measure will be reviewed after six months or earlier, if needed," RBI Governor Shaktikanta Das said. The RBI left interest rates unchanged.

Banks park excess funds at SDF earning an interest of 6.25%, while they keep excess funds via MSF at a higher interest of 6.75%. However, these partial availability of these facilities on holidays and weekends, has resulted in volatility in overnight interest rates.

"There have been instances of heavy borrowing before long weekends, or instances when there is a holiday for Mumbai, but banks across the country remain operational, forcing additional borrowing to avoid any asset-liability mismatch," a treasury head at a state-run bank said.

"Since the transactions can now be reversed on the next day, the pressure to keep additional reserves will reduce, and large borrowings from banks may not be needed."

India's banking system liquidity has largely stayed in deficit over the past few months, but banks have been simultaneously parking large sums in SDF, and borrowing hefty amounts from the MSF window.

In October, Das had nudged banks to lend surplus funds to their peers instead of parking the money with the central bank under SDF.

"With uniformity in usage of MSF and SDF, operational flexibility in these facilities will optimise the liquidity management for Banks," said VRC Reddy, treasury head at Karur Vysya Bank.

(Reporting by Dharamraj Dhutia; Editing by Nivedita Bhattacharjee)