Banking System Faces Deficit Amidst Lengthy Electoral Process
- Liquidity Deficit Since April 20: Economists note that India’s average banking system liquidity has been in deficit since April 20, exacerbated by the ongoing national election.
- Corporate FDs Remain Uncovered: Unlike bank Fixed Deposits (FDs), the Deposit Insurance and Credit Guarantee Corporation (DICGC) does not extend coverage to corporate FDs, leaving them uninsured up to Rs 5 lakh.
RBI Responds to Election Impact
The Reserve Bank of India (RBI) finds itself navigating a liquidity challenge amidst India’s marathon six-week-long national election, which commenced on April 19 and will conclude on June 1, with the counting slated for June 4.
Government Spending Hit
- Typical Election Slump: Historically, government spending during elections experiences a slowdown, picking up momentum only post the formation of a new government and presentation of the budget.
- Surprise Bond Buyback: In a bid to alleviate liquidity strains, the government announced a surprise buyback of bonds worth Rs 40,000 crore on Friday. This move is expected to inject funds into the banking system, thereby providing relief.
Economic Impact and RBI’s Actions
- Yield Reduction: Following the buyback announcement, yields on bonds maturing in 2-5 years witnessed a decline of 3-5 basis points on Monday. Similarly, longer-term yields also experienced a cooling effect.
- Liquidity Injection: The buyback of securities serves as a liquidity-injecting mechanism, aimed at easing liquidity strains within the system, as highlighted by sources familiar with the government’s strategy.
Expert Insights
Gaura Sen Gupta, India economist at IDFC FIRST Bank, underscores the significance of the buyback in light of reduced government expenditure amidst the ongoing election cycle. Anitha Rangan, an economist at Equirus Group, predicts a considerable decrease in government spending during the April-June period, primarily due to election-related factors.
RBI’s Short-Term Measures
In addition to the government’s efforts, the RBI has ramped up short-term liquidity infusions since mid-April. Citi economists report that the RBI has injected Rs 1.7 lakh crore via variable rate repo auctions to address potential liquidity tightness stemming from delayed decision-making and constrained government spending during the election period.
As India navigates through its electoral process, the collaboration between fiscal and monetary authorities remains crucial in stabilizing the nation’s financial landscape amidst evolving circumstances.
