RBI Conducts VRRR Auctions to Absorb Surplus Liquidity

RBI Shifts Gears on Liquidity Operations

The Reserve Bank of India (RBI) has made a significant change in its liquidity operations, moving from injecting funds into the banking system in March to absorbing surplus liquidity through variable rate reverse repo (VRRR) auctions in April. This shift is in response to high banking liquidity levels, which have remained above Rs 5 lakh crore for about a week straight, according to market participants.

The RBI has conducted two VRRR auctions this month, with the latest auction on April 17 pulling out Rs 2 lakh crore worth of liquidity from the banking system. This is similar to the previous VRRR auction on April 10, where the RBI also pulled out the same quantum from the banking system. A VRRR auction is an initiative undertaken by the central bank, where the RBI absorbs excess cash from banks, and banks themselves bid for higher interest returns than the fixed reverse repo rate.

The RBI's decision to shift to VRRR auctions comes after the central bank took multiple measures such as Variable Rate Repo (VRR) and Open Market Operations (OMO) to combat unforeseen banking liquidity requirements. In March, the central bank conducted VRR operations in the amount of Rs 3.25 lakh crore, largely due to outflows from advance tax payouts as the financial year ended.

Table: Comparison of RBI's Liquidity Operations

| Date | Type of Auction | Amount Pulled Out (Rs crore) | | --- | --- | --- | | April 10 | VRRR | 2 lakh | | April 17 | VRRR | 2 lakh |

The RBI's liquidity absorption via VRRR is a pre-emptive step to manage the risk of high liquidity feeding into inflation, especially if wholesale price pressures persist. Market participants believe that the RBI will continue to monitor the banking liquidity system to ensure ample funds are available.

RBI governor Sanjay Malhotra had flagged in his speech during the monetary policy committee (MPC) meeting that the central bank will continue to monitor the banking liquidity system to ensure ample funds are available. The RBI's proactive and pre-emptive approach to liquidity management aims to ensure sufficient liquidity in the banking system to meet the productive requirements of the economy.

Additionally, these measures were taken as the Indian rupee was consistently hitting multiple record lows in March due to elevated Brent crude prices. The RBI intervened in both the spot and offshore non-deliverable forwards (NDF) markets to arrest free-falls in the currency. This intervention led to a tightening of banking liquidity, which the RBI is now addressing through VRR and VRRR auctions.

Market participants believe that the RBI may announce a combination of VRR and VRRR auctions to maintain equilibrium in the banking system. The rupee has temporarily stabilised, trading at Rs 92.87 per dollar as at 1230 IST, well above the record low of Rs 95.23 per dollar hit in late March. Bond yields have also relatively stabilised, trading at 6.9123 percent, above the psychological 7 percent level.