Reverse repo out, SDF in: RBI’s new liquidity absorbing instrument

The Reserve Bank of India (RBI) has launched the Standing Deposit Facility (SDF) — a brand new instrument for absorbing liquidity — at an rate of interest of three.75 per cent. With this, the RBI has virtually made the reverse repo irrelevant.

The operative fee has gone up by 40 bps with the institutionalisation of the Standing Deposit Facility for the withdrawal of ultra-comfortable liquidity.

The SDF will substitute the mounted fee reverse repo (FRRR) as the ground of the LAF (liquidity adjustment facility) hall. Both the standing amenities viz., the Marginal Standing Facility (MSF) and the SDF can be out there on all days of the week, all year long.

The FRRR fee, which is retained at 3.35 per cent, will stay as a part of the RBI’s toolkit and its operation can be on the discretion of the RBI for functions specified sometimes. The FRRR, together with the SDF, will impart flexibility to the RBI’s liquidity administration framework, the RBI stated.

In 2018, the amended Section 17 of the RBI Act empowered the central financial institution to introduce the SDF — a further instrument for absorbing liquidity with none collateral. By eradicating the binding collateral constraint on the RBI, the SDF strengthens the working framework of financial coverage. The SDF can be a monetary stability instrument along with its function in liquidity administration. The extraordinary liquidity measures undertaken within the wake of the pandemic, mixed with the liquidity injected by way of varied different operations of the RBI, have left a liquidity overhang of the order of Rs 8.5 lakh crore within the system, in keeping with RBI Governor Shaktikanta Das. “The RBI will engage in a gradual and calibrated withdrawal of this liquidity over a multi-year time frame in a non-disruptive manner beginning this year,” Das stated whereas unveiling financial coverage evaluate. The goal is to revive the scale of liquidity surplus within the system to a stage in line with prevailing stance of financial coverage, he stated.

In 2020, in the course of the pandemic, the width of the LAF hall was widened to 90 foundation factors by uneven changes within the reverse repo fee vis-à-vis the coverage repo fee. Aimed at totally restoring the pre-Covid liquidity administration framework of February 2020 and in view of gradual return to normalcy in monetary markets, the RBI has determined to revive the width of the LAF hall to its pre-Covid stage. With the introduction of the SDF at 3.75 per cent, the coverage repo fee being at 4 per cent and the MSF fee at 4.25 per cent, the width of the LAF hall is restored to its pre-pandemic configuration of fifty bps. Thus, the LAF hall can be symmetric across the coverage repo fee with the MSF fee because the ceiling and the SDF fee as the ground with quick impact.