Banking System Liquidity
Source: Indian Express
GS III: Indian Economy
What is discussed under Banking System Liquidity?
- What Is Banking System Liquidity?
- Triggering Factors of Deficit
- How Does It Affect Consumers?
- How Can RBI Deal With This Situation?
Why in News?
- For the first time, the financial system’s liquidity condition deteriorated.
- In comparison, the liquidity surplus in November 2021 was Rs 8 lakh crore as the Reserve Bank of India (RBI) provided liquidity support to the economy dealing with the aftereffects of the Covid epidemic.
What Is Banking System Liquidity?
- In the banking sector, liquidity refers to easily available cash that banks require to satisfy short-term commercial and financial demands.
- On any given day, the banking system’s liquidity is considered to be in deficit if it is a net borrower from the RBI under the Liquidity Adjustment Facility (LAF).
- It is said to be in surplus if it is a net lender to the RBI.
- The LAF refers to the actions of the RBI that inject or absorb liquidity into or out of the banking sector.
Triggering Factors of Deficit
- Increase in loan demand.
Image by Free stock photos from www.rupixen.com from Pixabay - The recent advance tax outflow, which is a quarterly occurrence, has exacerbated the issue.
- The RBI continues to intervene to keep the rupee from falling against the US currency
- The uptick in the bank credit
- Advance tax payments by corporates
- The intervention of the RBI into the forex market
- Incremental deposit growth not keeping pace with credit demand
How Does It Affect Consumers?
- A lack of liquidity might cause a rise in the yields on government assets, which would then lead to an increase in consumer interest rates.
- On September 21, 2022, the 10-year government bond rate jumped to 7.23%, up from 7.18% on August 20, 2022.
- Short-term interest rates will rise quickly as a result of tighter liquidity and the RBI’s rate hike.
- A hike in the repo rate will increase the cost of financing.
- Banks will raise their repo-linked lending rates as well as the marginal cost of funds-based lending rate (MCLR), which is related to all loans.
- Consumers will face higher borrowing rates as a result of this increase.
How Can RBI Deal With This Situation?
- If the current liquidity imbalance is transitory and mostly due to advance tax flow, the RBI may not need to intervene because the money will soon return to the system.
- However, if it is of a long-term character, the RBI may be forced to take action to strengthen the system’s liquidity position.
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