India’s interbank liquidity has tightened significantly, prompting calls for the Reserve Bank of India (RBI) to adopt proactive measures such as buy/sell swaps, OMO purchases, and potential CRR cuts to ease the crunch. With the Money Market Interbank Offer Rate (MIBOR) breaching 7.00%, surpassing the RBI’s Liquidity Adjustment Facility (LAF) corridor, the liquidity deficit is expected to persist in the coming months, according to a Nomura report.
Interbank liquidity stood at a deficit of Rs 2.26 trillion as of January 8, driven by the RBI’s aggressive foreign exchange interventions and increased currency in circulation (CIC) outflows. Over the past two months, total liquidity has plummeted from Rs 4.6 trillion on September 27 to Rs 0.4 trillion on December 27, with further declines expected. Persistent CIC outflows, net drains from bond auctions, and FX challenges are compounding the liquidity strain.
MIBOR surge and market fragmentation
The sudden rise in MIBOR, which has increased by 25 basis points to around 7.00%, reflects market pressures. Factors such as limitations on the Marginal Standing Facility (MSF), timing issues in daily liquidity management, and operational restrictions are contributing to this unusual spike. Fragmentation in the banking system, with some banks parking funds in the Standing Deposit Facility (SDF) rather than lending in the call market, further exacerbates the issue.
Nomura said that the RBI must act decisively. While the central bank has tools like buy/sell swaps to inject rupee liquidity and lower INR premia, open market operations (OMO) are becoming increasingly likely. The report suggests that further cuts in the Cash Reserve Ratio (CRR) cannot be ruled out, and government spending at month-end might offer temporary relief but is unlikely to resolve the systemic liquidity deficit.
In the absence of RBI intervention, MIBOR is expected to remain elevated between 6.90% and 7.00% in the coming weeks. Nomura maintains its recommendation for receiving positions on the 2-year part of the NDOIS curve and a long position on the 10-year IGB versus SOFR, anticipating potential OMO purchases that could support the bond curve.
