MSS bonds to absorb Rs6,00,000 cr of demonetised banknotes

The government on Friday increased the ceiling of special bonds under the  Market Stabilisation Scheme (MSS) that can be issued to mop up excess liquidity in the system to Rs 6,00,000 crore, from the earlier Rs30,000 crore, in a move will help absorb excess liquidity in the system while also helping banks to park their surplus funds and earn interest.

In the wake of the withdrawal of the legal tender character of the Rs500 and Rs1,000 denomination notes with effect from 9 November 2016, there has been a surge in the deposits with the banks. Consequently, there has been a significant increase of liquidity in the banking system which is expected to continue for some time, RBI stated in a release.

In order to facilitate liquidity management operations by the Reserve Bank of India in the current scenario, the government of India has, on the recommendation of the Reserve Bank of India, decided to revise the ceiling for issue of securities under the Market Stabilisation Scheme (MSS) to Rs6,00,000 crore, RBI stated.

This is expected to absorb nearly 75 per cent of the over Rs8,00,000 crore of liquidity in the form of demonetised Rs500 and Rs1,000 notes banks in the country received since 9 November.

This will provide a big relief for banks, already burdened with rising cash deposits and the 100 per cent of incremental cash reserve ratio (CRR) imposed by the central bank on deposits of the demonetised notes.

With RBI imposing a 100 percent CRR on deposits collected between 16 and September and 11 November, banks were holding on to Rs8,45,000 crore of demonetised notes as of 27 November, after placing Rs5,00,000 crore on the RBI's reverse repo window.

RBI is expected to review the CRR requirement of banks on 9 December in its monetary policy.

The Market Stabilisation Scheme allows the RBI to suck off excess liquidity in the system. However, the Rs6 lakh crore is only a provision and it is not necessary that the entire amount should be utilised.

Banks earn 5.75 per cent interest on funds placed on the reverse repo window, and RBI provides government securities (G-secs) as collateral to banks. With expectations of cash to the tune of Rs 10-11 lakh crore coming into banks by way of banned notes, RBI is likely to have fallen short of G-secs to conduct reverse repo operations. It had around Rs7,00,000 crore of G-secs in June 2016.

With the introduction of MSS bonds, of which the first tranche of Rs20,000 crore was issued as 28-day cash management bill on Friday, the CRR requirement would be gradually brought down.

RBI on Friday announced the auction of the 28-day government of India cash management bills for a notified amount of Rs20,000 crore using `Multiple Price Auction' method.

RBI also has announced the auction of 364-day Government of India Treasury Bills for notified amount of Rs6,000 crore to be conducted on 7 December 2016 using `multiple price auction' method.