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Need for Flexibility in Financial Sector Reform

Successive governments have failed to adopt a macroeconomic perspective that allows for flexibility in the application of reform measures, a failure which is proving to be a hurdle in achieving healthy and inclusive growth path. In the financial sector, as in the case of fiscal and revenue deficit reduction, be it in universal banking or the earlier practice of differential interest rates in working capital and term loans or provision of institutional credit, the absence of such a flexibility has had many negative consequences.

Money market

Need for Flexibilityin Financial Sector Reform

Successive governments have failed to adopt a macroeconomic perspective that allows for flexibility in the application of reform measures, a failure which is proving to be a hurdle in achieving healthy and inclusive growth path. In the financial sector, as in the case of fiscal and revenue deficit reduction, be it in universal banking or the earlier practice of differential interest rates in working capital and term loans or provision of institutional credit, the absence of such a flexibility has had many negative consequences.

EPW RESEARCH FOUNDATION

I Imperatives of Flexibility in Reform Objectives

P
lanning Commission deputy chairman Montek Singh Ahluwalia’s statement on the priority of providing additional resources for financing social and infrastructure sectors in Five-Year Plan programmes irrespective of what happens to the fiscal targets set out in the Fiscal Responsibility and Budget Management (FRBM) Act, 2003, has raised interesting questions on the compatibility of many a reform measure with the goals of economic and social development. The incompatibility has risen because these measures have been inspired by a certain ideological pre-disposition that disregards the imperatives of public policy interventions for achieving more inclusive growth in a socio-economic structure which is highly unequal. The reform measures thus have a rigid construct without allowing for flexibility and it is proven that the burden of adjustment is invariably borne by the economically and socially deprived sections of society, which constitute, as per a realistic study, about 85 per cent of India’s rural population or 69 per cent of the country’s total population (EPW, June 24, 2006). Obviously, the FRBM provisions suggesting the tightening of the belt to contain deficits, when fulfilled, will be invariably at the cost of providing the additional plan resources required for the agricultural sector facing acute agrarian distress and also for the social sectors. What this controversy brings home is the need, at least minimally, for a macroeconomic perspective that accepts flexibility in the application of the reform measures. For instance, it could be in the form of a shifting of FRBM goal posts by two years, as suggested by Montek Singh Ahluwalia or of redefining the concept of the revenue deficit to exclude revenue expenditures on education, health and agriculture which are clearly linked to asset creation, as suggested in the recent Approach Paper to the 11th Five-Year Plan.

This note is not intended to be a commentary on the subject of plan resources or the fiscal deficit. It rather takes this opportunity to highlight the failure on the part of the authorities to opt for a macroeconomic perspective that allows for flexibility in the application of reform measures; a failure which is hence proving to be a hurdle in achieving a healthy and inclusive growth path. We do so with a few concrete issues that have surfaced in the financial sector.

First, the question of universal banking. It is universally accepted that project finance is a highly specialised activity and at this stage of the country’s industrial development, development finance institutions (DFIs) have a pivotal role to play. In the absence of a vibrant commercial bonds market capable of sharply rating industrial projects and providing sufficient amount of long-term finance, the integration of short-term and term-financing institutions is increasingly proving to be harmful to the process of industrialisation. The reforms of the financial sector, with the commercial banks allowed to enter para banking activities (housing, merchant banking, etc), could have been consistent with the presence of DFIs with specialised promotional role for project finance. It was not to be, for the ideology of universal banking overpowered the thinking of the policyplanners and thus destroyed one key coveted wing of the country’s financial structure innovatively and assiduously built over years.

The same is true of the second question that concerns the differential rates of interest on working capital and term loans traditionally charged by banks. The rationale for charging lower rates of interest on term loans is as valid as ever, but the series of reform measures such as the need to avoid asset-liability mismatches and to attain integration of short-term and term financial markets, are increasingly tending to blur the interest rate differentials between working capital and investment capital. In the plethora of reforms, the cost of capital has ceased to be an instrument for promoting industrial investment and the banks generally adopt a purely shortterm commercial view of the subject in the absence of any moral suasion based on macro considerations.

The absence of such a macroeconomic perspective now appears to be more blatant in the third question that we wish to raise, namely, the role of institutional credit for narrowing sectoral, regional and functional disparities in economic opportunities. These broader objectives of inclusive growth could have been consistent with financial sector reforms consisting of, inter alia, the prescriptions of prudential norms relating to capital adequacy, asset classification, income recognition and provisioning, provided those macroeconomic objectives of achieving distributive goals were bestowed the same importance as the prudential norms and provided the authorities ensured the same rigour in monitoring both the aspects.

The macroeconomic perspectives sought to be advanced above relate to areas of policy interventions with measurable yardsticks. There are many others wherein aggressive application of liberalisation

Economic and Political Weekly September 23, 2006

measures, without calibration and restraint, economy. Likewise, even as trading in gold liquidity situation, combined with policy seem to spawn a situation of growing and silver is liberalised, the authorities simulations and many circumstantial pointspeculation and inequality. In the stock could deploy fiscal measures to restrain the ers, generally helped to ease yield rates on market, for instance, an overwhelming size flow for domestic consumption. gilt-edged securities. In the first dated of transactions is now taking place in securities auction of the month, the maderivatives and not in the cash segment. turity profile was shifted in favour of

II

In the derivatives market, the absence of shorter tenures as compared with the pre-

Money, Gilt-Edged and

physical settlement is facilitating investors designed calendar, as a brief response to

Forex Markets

to hold large positions and rollover of the banks’ attempts to bring down the maturity same at the time of deliveries. This cash The outlook for the short-term money profiles of their investments. Though the settled system is said to be an anachronism market rates of interest in August was set government’s fiscal and revenue deficits, as, in all developed countries, derivative by the July 25 increase in the Reserve Bank in the first quarter, have exceeded more trades are delivery settled (Deena Mehta, of India’s benchmark rates of reverse repo than half of the full-year’s budget, the Business Line, August 03, 2005). Again, and repo transactions. But, the prevailing secondary yields were not allowed to rise, within derivatives, the largest growth has

Table 2: Weighted Averages of Daily Call/Notice Rates in Per Cent Per Annum:

been in individual stock futures, but all the

Simple Statistical Characteristics

major stock exchanges of the world (in the US or Europe in particular) consider in-Month/Week Simple Standard Coefficient Simple Standard Coefficient Mean* Deviation of Variation Mean* Deviation of Variation

dividual stock futures as not only highly

(Percentages)$ (Percentages)$

unstable but also as serving not any jus-

Call Money Notice Money**

tifiable purpose (R H Patil, EPW, March

July 200618, 2006). Added to it now, the indiscrimi-All four weeks 5.82 0.09 1.60 5.76 0.20 3.52 nately large number of agricultural com-28 5.90 0.13 2.12 5.93 0.18 3.11

21 (RF)* 5.78 0.07 1.23 5.79 0.08 1.46

modities permitted to be traded on com-14 5.80 0.08 1.37 5.67 0.23 4.07 modity exchanges during the last few 7 (RF)* 5.80 0.04 0.63 5.72 0.23 3.95

August 2006years, is indeed projecting the image of a All four weeks 6.03 0.10 1.64 5.98 0.16 2.61 traders’ nation. Such disregard for a 25 6.04 0.10 1.70 6.03 0.09 1.42

18 (RF)* 6.04 0.08 1.38 6.02 0.12 2.00

macroeconomic perspective that dis-11 6.03 0.11 1.75 5.89 0.12 2.06 courages redundant speculation and un-4 (RF)* 5.99 0.12 1.98 5.99 0.24 4.08

earned incomes and promotes frugality, ** Separate reportings began on March 15, 2005. saving and productive investment, is best * Including data for reporting Fridays (RF). $ Based on original unrounded figures.

exemplified by the encouragement given

Table 3: Comparison of Call, Overnight CBLO and Repo Rates

to gold and silver imports; such imports

Week Ending Weighted Average Rates Daily Average Volumes

now total $12 billion or Rs 60,000 crore

(in Per Cent) (Rs crore)

annually, which imply a huge transfer or

Call Overnight CBLO Repo Call Overnight CBLO Repo

leakages of hard-earned savings of the

4-Aug-06 6.07 5.83 5.90 10451 14986 10321

community for unproductive purposes –

11-Aug-06 6.08 5.94 5.97 13275 14157 8733and outflow abroad. Even as stock market 18-Aug-06 6.10 6.00 6.06 11491 12902 8449 25-Aug-06 6.11 5.98 6.06 11783 14059 11112

activities are promoted for better price

7-Jul-06 5.82 5.42 5.55 11851 19634 9770

discovery and nurturing an equity cult, the

14-Jul-06 5.83 5.59 5.64 12323 15071 10279restraint on unbridled and non-functional 21-Jul-06 5.83 5.64 5.70 9633 15643 9845 28-Jul-06 5.96 5.78 5.83 9443 15123 9773

speculation deserves to be enforced for the health of the capital market and the Source: The Clearing Corporation of India (CCIL).

Table 1: Money Market Operations (RBI’s Daily Data)

Average August 2006 Average July 2006 Items for Four for Four Weeks 25 18 (RF) 11 4 (RF) Weeks 28 21 (RF) 14 7(RF)

No of working days 23 6 5 6 6 23 6 6 6 5

Call Money

Weighted average of call rates:

per cent (weekly range) per annum 5.82-6.11 5.84-6.11 5.94-6.10 5.82-6.09 5.83-6.07 5.64-6.06 5.80-6.06 5.68-5.83 5.64-5.85 5.74-5.83 Daily averages (Rupees crore) (5.94) (5.83) (5.68) (5.74) Total call market borrowings 8460 6970 7625 10350 8755 8621 7366 8049 9866 9320

(132) (155) (181) (287)

Notice Money

Weighted average of notice money rates:

per cent (weekly range) per annum 5.78-6.23 5.92-6.12 5.82-6.10 5.78-5.95 5.58-6.23 5.21-6.09 5.71-6.09 5.67-5.88 5.21-5.83 5.32-5.85 Daily averages (Rupees crore) (6.10) (6.07) (5.82) (5.83) Total notice market borrowings 3301 4813 3866 2925 1696 2469 2493 1584 2458 2532 (12698) (9572) (9370) (12515) Turnover in term money market 374 378 446 256 420 321 338 439 120 425 (borrowings)$$ (238) (391) (645) (183)

*Data for reporting Fridays are given within brackets and they are also included in the weekly range/daily averages. $$ No of reporting/traded days is fewer than given above. .. not available.

Economic and Political Weekly September 23, 2006

Graph A: Trends in Weighted AveragesGraph B: Spot Quotations for US Dollarnationalised banks into tradable securities. of Call Rates, Repo Rates, CBLO Ratesin the Domestic Inter-Bank Market

Incidentally, the Fitch ratings upgrade had

and Call Money Borrowing – Aug 2006

a marginal effect on the market sentiments.

20.5

50.0

l i iMonthly Averages (Jan 2001 to July 2006) (Daily Working Days Aug 2006)
Even the Chinese decision to allow yuan

to strengthen more widely against the dollar

(say by 0.24 per cent in contrast to 0.04

15.5 48.0

Weighted Average (Per Cent)

(Rupees Thousand Crore)Rupees per US dollar

per cent hitherto) due to pressures from the

US and Europe to narrow its trade sur

pluses, has hardly had any impact on the

10.5

46.0

rupee-dollar rate which generally remained

steady at a depreciated level.

5.5

44.0

Call Money Market

0.5

The weighted averages of call rates in

August 2006

-i

Call Rates

Repo Rates – Outside the RBI

ll

Call Money Volume (Rs Cr) CBLO Rates

with the deputy RBI governor asserting that there would be no problem in managing the borrowing programme even in the absence of the RBI in primary auctions. The next significant pointer was the US Fed’s decision against a rate hike in early August after 17 successive hikes, generating some hope that the RBI too would fall in line. For a while, the market remained apprehensive, given the surprise hikes in benchmark rates by Bank of England and European Central Bank. But, the easing of international crude oil prices from $78 to about $68 a barrel supported the positive sentiments. There was a blip in the form of rise in yield rates following the second dated securities auction, when liquidity came under pressure, but the primary yields were calibrated beneath the secondary yields. Also, the situation eased

42.0

soon after the redemptions of two maturing securities towards the last week of the month and after the reassuring statement of the union finance minister that both central and state governments had surpluses with the RBI; these, accompanied by the increased transfer of surplus profits of RBI to government, buoyed the giltedged market sentiments. The concerns of market participants about the status of the oil bonds, which could impinge on the values of their investments in gilt-edged securities if the bonds qualified for SLR, were put to rest by the finance minister by ruling out any such possibility. The whenissued market, which began functioning in July, saw modest volumes. The Cabinet Committee on Economic Affairs (CCEA) approved conversion of recapitalisation bonds (special securities) issued to

Table 4: Auctions of 91-Day Treasury Bills

(Amount in rupees crore)

August ruled above the new reverse repo rate of 6 per cent except for those on Fridays, irrespective of they being reporting Fridays or not, indicating some pressure on liquidity despite huge reverse repo bids being tendered under RBI’s LAF. The month began with the rate ruling at 6.07 per cent on August 1 and ruled steady at it until August 3; the next day being the first reporting Friday saw the call rate dipping to 5.83 per cent. Until August 10, the overnight again ranged between 6.05-6.09 per cent due to the outflows towards the first dated security auctions of the month. It eased to 5.82 per cent on August 11 (a non-reporting Friday), but rose again to 5.95 per cent on the next day and to 6.09 per cent on August 14. For the next two days ahead of the second auction, the overnight rate rose to 6.10 per cent but though the auction coincided with the second reporting Friday on August 18, the

Date of Auction (1) Notified Amount (2) Bids Tendered No Face Value (Amount) (3) (4) Bids Accepted No Face Value (Amount) (5) (6) Subscription Devolved on PDs (Amount) (7) Cut-off Price (Rupees) (8) Cut-off Yield Rate (Per Cent) (9) Amount Outstanding on the Date of Issue Total With RBI Outside RBI(10) (11) (12)
2005 August 3 August 10 August 17 August 24 August 31 2006 August 02 August 09 August 16 August 23 August 30 2000.00 2000.00 2000.00 2000.00 2000.00 2000.00 2000.00 2000.00 2000.00 2000.00 5 8 (0) 5 2 (1) 6 0 (1) 5 6 (0) 7 7 (2) 7 9 (0) 6 4 (1) 7 1 (2) 5 4 (1) 4 3 (1) 6907.50 (0.00)6879.35 (18.39)6326.40 (203.00)6050.40 (0.00)10663.18 (2863.00) 4703.00 (0.00)5520.59 (700.00)3666.47 (1510.00)3736.15 (500.00)2687.00 (100.00) 23 (0) 19 (1) 26 (1) 14 (0) 27 (2) 63 (0) 17 (1) 49 (2) 21 (1) 31 (1) 2000.00 (0.00)2000.00 (18.39)2000.00 (203.00)2000.00 (0.00)4000.00 (2863.00) 2000.00 (0.00)2000.00 (700.00)2000.00 (1510.00)2000.00 (500.00)2000.00 (100.00) 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 98.69 [98.70]98.71 [98.72]98.72 [98.73]98.73 [98.74]98.72 [98.73] 98.42 [98.43]98.44 [98.45]98.43 [98.44]98.43 [98.43]98.42 [98.43] 5.31 [5.27]5.23 [9.15]5.19 [5.15]5.15 [5.10]5.19 [5.15] 6.44 [6.40]6.36 [6.31]6.40 [6.36]6.40 [6.40]6.44 [6.40] 25364.37 25382.77 24585.77 24585.77 29085.77 27526.60 27585.46 28576.26 30559.01 31032.91 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 25364.37 25382.77 24585.77 24585.77 29085.77 27526.60 27585.46 28576.26 30559.01 31032.91

Figures in parentheses in cols 3 to 6 represent numbers and amounts of non-competitive bids which are not included in the total. Figures in the square brackets under cols 8 and 9 represent weighted average price and respective yield.

Economic and Political Weekly September 23, 2006

Graph C: Annualised Forward Premia in Graph D: Yield Curves for Dateddecision of the US fed, announced onPercentage for the US Dollar in theSecurities – Weighted Average for

August 8, to pause its two-year interest rate

Domestic Inter-Bank Market and WeightedWeeks of August 2006

tightening cycle, the rupee turned buoyant.

Averages of Call Rates for Aug 2006 9.5

6.0

8.0

The US dollar remained somewhat weak

5.5

Weighted Averages of 9

as the US economy displayed signs of

i

8.5

7.5

Yield (per cent per annum)

Call Rates (Right Axis)

ll t iti

weakness, and with the other major coun

1st Week 2nd Week 3rd Week 4th Week

1 2 3 4 5 6 7 8 9 1011121314151618293031

tries continuing with their rate hikes such

Per cent per annum

6.0

as by Bank of England and European

Central Bank, it was perceived that the US

8

dollar had lost support. As a result, with

widening interest rate differentials, most

2.0

1.5

1.0

-

1-month 3-month

6-month 4.0

of the currencies appreciated against the

dollar. Following the statements of the

7

union commerce minister that the FDI

inflows were robust in the first quarter of

2.0 6.5

Working Days

call rate dipped to 5.94 per cent as banks had covered their positions (Table 1). Again, the call rate firmed up to 6.03 per cent on the next day and further to 6.11 per cent on August 21, reflecting the underlying pressure on liquidity following the security auction. With the inflows from the redemption of two dated securities, the liquidity situation improved and the overnight rate ruled between 6.08-6.10 per cent except on August 25, a non-reporting Friday, when it ruled at 5.84 per cent and on the next day it ruled at 6.00 per cent. On August 31, the rate ruled at 6.08 per cent (Graph A). Interestingly, during the month the turnover in call money market declined while that of notice money increased (Table 1). Notice money rates were lower than the overnight rates but have greater variability (Table 2).

Among the three short-term instruments, the rates offered in the CBLO market were lower than those in the repo and call money market indicating the market’s continuing preference for collateralised borrowings as against the non-collateralised ones (Graph A); also increasing participation by non-banking institutions in the CBLO and repo markets may explain the difference to an extent (Table 3).

Forex Market

After a sharp depreciation of the rupee in July, the rupee-dollar exchange rate oscillated in August within a narrow range, with events such as easing of international crude oil prices following a truce in the West Asia as well as inflow of foreign currency assets exerting pressure on the rupee to appreciate, but persistent demand for dollars from importers and domestic oil companies restrained its appreciation. The demand for dollars remained robust the current fiscal year buoyed the rupee,

Years to Maturity

which was supported further by the upduring the month initially due to volatility surge in domestic stock markets. FII inin global crude oil prices and after their flows in August totalled $1,173 million prices eased, the demand was firm due to against $285 million in July. Even the hike trading and hedging requirement of a in benchmark rates by China by 27 basis number of corporates including some mid-points or its decision to widen the yuan sized companies. Even the ratings upgrade appreciation had only a limited impact on by Fitch of India’s long-term foreign and the rupee’s movements, as the demand for local currency ratings to investment grade dollars remained strong. Given the presgiven the fiscal consolidation at the centre sure of month-end demand for dollars and as well as at state level had a marginal effect expectation that the Bank of Japan would on the rupee’s movements. Following the increase its interest rates sparingly pushed

Table 5: Auctions of 182-Day Treasury Bills

(Amount in rupees crore)

Date of Auction Notified Amount Bids Tendered No Face Value (Amount) Bids Accepted Subscription Cut-off Cut-off Amount Devolved Price Yield Outstanding No Face Value on PDs (Rupees) Rate on the Date (Amount) (Amount) (Per Cent) of Issue
2005
August 10 August 24 2006 1500.00 1500.00 3 3 (1) 5 1 (0) 3703.02 (500.00) 4330.00 (0.00) 1 7 (1) 8 (0) 1500.00 (500.00) 1500.00 (0.00) 0.00 0.00 97.35 [97.36] 97.39 [97.40] 5.44 [5.42] 5.36 [5.34] 13528.50 15028.50
August 09 August 23 1500.00 1500.00 6 5 4 4 (1) 5683.00 2460.00 (500.00) 3 0 2 0 (1) 1500.00 1500.00 (500.00) 0.00 0.00 96.77 [96.78] 96.76 [96.77] 6.69 [6.67] 6.72 [6.69] 14606.56 16106.56

Figures in the square brackets represent weighted average price and the respective yield. Figures in brackets represent numbers and amounts of non-competitive bids which are not included in the total.

Table 6: Auctions of 364-Day Treasury Bills

(Amount in rupees crore)

Date of Notified Bids Tendered Bids Accepted Subscription Cut-off Cut-off Amount Auction Amount Devolved Price Yield Outstanding No Face Value No Face Value on PDs (Rupees) Rate on the Date (Amount) (Amount) (Amount) (Per Cent) of Issue

2005 August 3 2000.00 75 5156.00 23 2000.00 0.00 94.67 5.63 49179

  • (0) (0.00) (0) (0.00) [94.69] [5.61] August 17 2000.00 82 5936.00 31 2000.00 0.00 94.70 5.60 49433
  • (1) (5.62) (1) (5.62) [94.71] [5.59] August 31 2000.00 65 4141.00 20 2000.00 0.00 94.69 5.61 49433
  • (1) (4.75) (1) (4.75) [94.70] [5.60] 2006 August 2 2000.00 113 7900.00 33 2000.00 0.00 93.48 6.99 43518
  • (0) (0.00) (0) (0.00) [93.49] [6.98] August 16 2000.00 90 5955.00 14 2000.00 0.00 93.51 6.96 43520
  • (1) (8.00) (1) (8.00) [93.52] [6.95] August 30 2000.00 82 7030.00 27 2000.00 0.00 93.54 6.93 43526
  • (1) (10.00) (1) (10.00) [93.55] [6.91]

    Figures in the square brackets represent weighted average price and the respective yield. Figures in brackets represent numbers and amounts of non-competitive bids which are not included in the total.

    Economic and Political Weekly September 23, 2006 the dollar higher, which resulted in the rupee depreciating.

    Thus, the month began with the rupee dollar exchange rate ruling at Rs 46.65; it touched a low of Rs 46.72 on August 3 and a high of Rs 46.43 on August 9 to finally close the month at Rs 46.55 – a gain of just 10 paise (Graph B).

    Incidentally, RBI banned banks from entering into yen swap transactions in respect of their innovative tier –I/II bonds and said that it generates undue currency risks in the books of banks since there were no underlying foreign currency receivables.

    Given the increased volatility in spot rupee rates and sensing that the RBI was pursuing a policy of keeping the rupee depreciated, exporters and IT companies started offloading their forward positions and importers started covering their shortterm exposures as they had suffered in July due to a sharp depreciation of the spot rupee against lower hedged positions. There has also been a fear of interest rate differentials between the US and Indian markets widening as the US fed has halted its rate increases. As a result, sizeable firming up took place in one-month and three-month premia from about 0.87 per cent to 1.42 per cent respectively, while the six-month premia just edged up from

    1.05 per cent to 1.42 per cent. It is interesting that towards the end of the month, all the three premia converged at 1.42 per cent (Graph C). An interesting development during the month was that corporates were increasingly exchanging their rupee loans for the Swiss franc liabilities using currency swaps, as the libor rates were much lower on the Swiss franc than those on dollars as well as yen.

    In general, the need for hedging is stimulated by many factors. First, though the RBI has provided enough indications of protecting India’s export competitiveness by inducing the rupee to depreciate somewhat in NEER terms and to sustain its REER level, the short-term direction of the intervention is obviously kept unpredictable. Secondly, the average daily turnover in the domestic forex market has shot up from December 2005 onwards, that is after the IMD redemptions; the average for the eight-month period December 2005 to July 2006 works out to $11.88 billion as against $ 7.58 billion for the preceding eight-month period – a rise of near 57 per cent.

    III Primary Market

    Dated Securities

    In August, the government raised Rs 17,000 crore as per the scheduled calendar of issuance through two instances

    Table 7: Profile of Major Commercial Bond Issues during August 2006

    Issuer Company Rating Nature of Instrument Coupon in Per Cent Per Annum and Tenor Total (Amountin Rs Crore)

    FIs /Banks

    1 Bank of Baroda AAA by Crisil, Icra Lower Tier II Bonds 8.95 per cent for 9 years and 6 months. 600 (100) 2 HDFC AAA by Crisil, Icra NCD 9.20 per cent for 10 years,

    8.50 per cent for 3 years. 450 3 ICICI Bank Ltd AAA by Crisil, Care Perpetual Bond 10.10 per cent with a step up of 1 per cent if call is not exercised at the

    end of 10th year. 225 4 IDFC AAA by Crisil, Icra Bonds 8.15 per cent for 2 years. 250 5 Indian Overseas Bank AA+ & AA Crisil & Fitch Upper Tier II Bonds 9.24 per cent for 15 years with step up of 50 bps

    after 10th year. 500 (100) 6 NABARD AAA by Care Bonds 7.85-8.00 per cent for 3 years with put call option at the end of 1st year. 200 7 Punjab National Bank AAA by Care Lower Tier II Bonds, 8.95 per cent for 10 years,

    AAA by Icra, Fitch Tier II Bonds 9.15 per cent for 9 years and 6 months. 615 8 State Bank of Bikaner AAA by Crisil, Care Lower Tier II Bonds 9.15 per cent for 10 years. 500 (250) and Jaipur 9 United Bank of India AA by Icra, Care Tier II Bonds 9.25 per cent for 10 years. 200 (50)

    NBFCS

    10 Citicorp Finance lndia AAA by Crisil NCD 8.65 per cent for 2 years. 125

    Central Government Undertakings

    11 Konkan Railway AAA(SO) by Crisil Bonds 8.90-9.00 per cent for 10 years with put call option at the end of 5 year. 200 (100) Corporation LAAA by Icra Total 4002*

    Total for August 2005 (a year ago):Rs 3,725 crore. Total for July 2006 (a month ago): Rs 6,067 crore. Note: * Total includes three more issues of less than Rs 100 crore (all three NBFCs). The amounts shown in brackets above denote the greenshoe options of the issues concerned.

    Table 8: Operations of RBI’s Liquidity Adjustment Facility**

    (Amount in rupees crore)

    Range of Repo (Injection) Reverse Repo (Absorption) Net Injection Net For the Week Repo/RR Bids Received Bids Accepted Bids Received Bids Accepted (+)/ Outstanding (July-Aug 2006) Period Number Amount Number Amount Number Amount Number Amount Daily Absorption (-) Amount

    Days Averages of Liquidity at the of Amount Weekend@

    (1) (2) (3) (4) (5) (6) (7) (8) (9) (10) (11) (12) (13)

    03 Jul-07 Jul 06 1-3 0 0 0 0 369 308905 369 308905 61781 -308905 58275 10 Jul-14 Jul 06 1-3 0 0 0 0 291 235395 291 235395 47079 -235395 39685 17 Jul-21 Jul 06 1-3 0 0 0 0 294 223960 294 223960 44792 -223960 46070 24 Jul-28 Jul 06 1-3 0 0 0 0 283 214415 283 214415 42883 -214415 44155

    31 Jul-04 Aug 06 1-3 0 0 0 0 331 240710 331 240710 48142 -240710 48355 07 Aug-11 Aug 06 1-3 0 0 0 0 245 202955 245 202955 50739 -202955 30990 14 Aug-18 Aug 06 1-3 0 0 0 0 195 122185 195 122185 24437 -122185 29990 21 Aug-25 Aug 06 1-3 0 0 0 0 190 138810 190 138810 27762 -138810 23985

    Notes: * With effect from July 26, 2006 the Repo Rate is 7 per cent and the Reverse Repo Rate 6 per cent.** Includes Second LAF Auctions under Repo and Reverse Repo. @ Net of Repo and Reverse Repo Outstandings.

    Economic and Political Weekly September 23, 2006

    Appendix Table: Secondary Market Operations in Government Paper: RBI’s SGL Data

    (Amount in rupees crore)

    Descriptions Week-ending August 2006: Yield to Maturity on Actual Trading Total for the Month
    AMT 25 YTM CY AMT 18 YTM CY AMT 11 YTM CY AMT 4 YTM CY of August 2006 AMT YTM CY
    1.Treasury BillsA.91-Day BillsB.182-Day BillsC.364-Day Bills2.GOI Dated Securities 2225.38 660.91 1484.69 6.36 6.66 6.70 1022.65 735.69 1377.20 6.35 6.55 6.86 1191.74 1159.55 1209.79 6.31 6.58 6.78 1556.21 1222.15 1958.93 6.32 6.57 6.76 5995.98 6.343778.30 6.586030.61 6.77
    A. Regular (Per Cent: Year)4.83 ,2006 11.50 ,2007 11.90 ,2007 12.50 ,2007 13.05 ,2007 9.50 ,2008 11.40 ,2008 11.50 ,2008 12.00 ,2008 12.25 ,2008 6.65 ,2009 5 5 357 ---20 50 5 35 60 6.02 6.92 6.82 ---7.2 7.15 7.15 7.13 7.35 4.83 10.97 11.48 ---10.58 10.75 11.15 11.18 6.76 9 5.92 --145 6.88 ------0.01 10.28 ------5 7.33 4.83 -11.47 ---11.18 ---6.76 5 --28 93 -31.86 -50 25 25 5.96 --6.95 6.94 -7.20 -7.11 7.11 7.41 4.83 --12.10 12.54 -10.57 -11.13 11.16 6.77 2.39 -200 -30 0.5 --36 50.01 10 5.93 -6.93 -6.95 7.58 --7.15 7.18 7.4 4.83 -11.46 -12.53 9.25 --11.13 11.17 6.77 21.39 5.00 702.00 28.00 123.00 0.50 51.87 50.00 91.00 110.01 100.00 5.96 4.83 6.92 10.97 6.86 11.47 6.95 12.10 6.95 12.54 7.58 9.25 7.20 10.57 7.15 10.75 7.12 11.13 7.15 11.17 7.37 6.76
    7.00 ,2009 0.2 7.07 ,2009OIL MKT BONDS 200 7.33 ,2009OIL MKT BONDS 80 11.99 ,2009 5 7.55 ,2010 397.15 11.30 ,2010 -11.50 ,2010 50 12.25 ,2010 0.42 12.29 ,2010 -9.39 ,2011 1750.43 11.50 ,2011 -12.00 ,2011 -12.32 ,2011 0.5 6.72 ,2012 -6.85 ,2012 40.03 7.40 ,2012 220.1 11.03 ,2012 0.05 7.27 ,2013 32 9.00 ,2013 0.06 9.81 ,2013 10 12.40 ,2013 10.02 6.72 ,2014 2.56 7.37 ,2014 700.4 10.50 ,2014 4.17 11.83 ,2014 0.25 6.83 ,2015 FRB 100 7.38 ,2015 0.25 10.47 ,2015 1 11.43 ,2015 81.44 11.50 ,2015 0.18 7.59 ,2016 1413.19 10.71 ,2016 -12.30 ,2016 -7.46 ,2017 10.5 7.49 ,2017 5.95 8.07 ,2017 1929.45 5.69 ,2018 0.05 6.25 ,2018 53.1 10.45 ,2018 85 5.64 ,2019 3.95 10.03 ,2019 -6.35 ,2020 1.84 10.70 ,2020 28.48 7.94 ,2021 176.89 10.25 ,2021 33.81 8.35 ,2022 -6.17 ,2023 4.5 6.30 ,2023 0.08 6.01 ,2028 -6.13 ,2028 -7.95 ,2032 -7.50 ,2034 191.85 7.40 ,2035 30.8 8.33 ,2036 359.29 Sub-total 8551.94 7.88 7.93 7.92 7.38 7.49 -7.52 7.63 -7.63 --7.96 -7.77 7.72 7.61 7.93 7.97 7.96 8.13 8.06 7.90 8 8 7.04 8.02 8 8.22 7.95 7.98 --8.04 8.15 8.04 8.28 8.19 8.20 8.20 -8.28 8.22 8.33 8.32 -8.36 8.71 ---8.63 8.61 8.64 7.86 7.15 7.21 7.43 10.83 7.54 -10.18 10.64 -8.77 --10.62 -7.15 7.51 9.51 7.53 8.55 8.96 10.13 7.26 7.60 9.15 9.64 6.92 7.69 9.11 9.52 9.42 7.79 --7.78 7.85 8.05 7.07 7.28 8.96 7.02 -7.51 8.91 8.21 8.82 -7.67 7.97 ---8.51 8.49 8.62 8.29 --100 7.87 10 7.9 --232.3 7.53 --------1477.04 7.79 ----------120.05 7.76 --------50 8.17 --110.15 7.95 ------5 7.99 --20.01 8.30 --1041.85 8.05 ----6.3 8.28 0.5 8.19 890.78 8.12 --16.05 8.33 --1.95 8.42 --0.05 8.31 --322.05 8.39 1 8.45 ----0.24 8.78 ------122.96 8.67 20 8.75 373.83 8.69 5081.12 8.00 -7.20 7.43 -7.55 ----8.83 -----7.52 ----10.15 -7.62 ---7.68 -9.56 -7.83 --7.92 7.88 8.10 -7.36 -7.15 -7.53 -8.25 8.91 --8.03 ---8.54 8.62 8.67 8.36 --10 7.95 20 7.94 25 7.45 430.56 7.63 ----0.1 7.77 --3811.54 7.88 0.06 7.96 25 8.00 40 7.93 20 6.74 55 7.84 110.05 7.85 2.01 8.05 ------10.02 8.27 --175.05 8.09 20 8.27 ----0.25 8.2 --50.35 8.35 --1443.62 8.17 30 8.17 20 8.34 1.5 8.31 2.5 8.28 25 8.24 0.05 8.65 10 8.49 --1.05 8.66 20 8.4 50 8.32 35 8.51 167.68 8.42 82.01 8.49 1 8.55 6.25 8.62 0.05 8.78 0.04 8.36 ----550.08 8.67 2 8.69 --7510.68 7.99 -7.22 7.43 10.83 7.57 --10.67 -8.86 10.00 10.28 10.60 6.73 7.17 7.56 9.69 ---10.19 -7.68 9.28 --7.78 -9.59 -7.89 9.18 9.73 7.94 7.93 8.17 7.29 7.45 -7.29 8.90 7.53 9.11 8.27 8.94 8.50 7.86 8.03 7.84 --8.55 8.56 -8.59 -50 50 25 414.1 10 0.01 1.56 30 585.73 -10 50.02 60 -25.4 0.03 ---60 -33.1 -----37.3 -351.17 16.5 10.07 0.85 0.8 30.69 4.5 0.67 -0.8 -2.01 28 51 16.51 -4.35 1.52 0.89 1.34 20 323.04 1 -2636.86 -7.99 8.00 7.34 7.70 7.81 8.07 7.77 7.82 7.90 -0.00 7.96 6.75 -7.97 8.25 ---8.35 -8.18 -----8.40 -8.26 8.33 8.35 8.33 8.31 8.31 8.39 8.63 -8.46 -8.61 8.54 8.52 8.58 -8.65 8.67 8.55 8.55 8.83 8.81 8.81 -7.92 -7.23 7.45 10.79 7.59 10.11 10.35 10.66 10.84 8.86 -10.27 10.60 6.73 -7.60 9.77 ---10.23 -7.72 -----9.61 -7.94 9.27 9.74 7.95 7.95 8.21 7.14 7.54 -7.18 -7.72 9.13 8.34 9.01 -7.89 7.95 8.00 8.04 8.73 8.67 8.68 -8.79 0.20 360.00 160.00 55.00 1474.11 10.00 50.01 2.08 30.00 7624.74 0.06 35.00 90.52 80.00 95.03 475.60 2.09 32.00 0.06 10.00 130.04 2.56 1018.70 24.17 0.25 100.00 5.50 1.00 189.10 0.18 4249.83 46.50 30.07 19.15 9.75 2875.92 4.60 79.82 85.00 7.75 20.00 53.90 91.48 717.62 133.33 1.00 15.10 1.89 0.93 1.34 20.00 1187.93 53.80 733.12 23780.60 7.88 7.15 7.92 7.21 7.94 7.43 7.39 10.81 7.60 7.56 7.81 10.11 7.52 10.18 7.74 10.66 7.82 10.84 7.81 8.83 7.96 10.00 5.71 10.28 7.94 10.60 6.74 6.73 7.81 7.16 7.78 7.53 8.04 9.69 7.93 7.53 7.97 8.55 7.96 8.96 8.26 10.19 8.06 7.26 7.95 7.62 8.22 9.26 8.00 9.64 7.04 6.92 8.00 7.68 8.00 9.11 8.30 9.56 7.95 9.42 8.09 7.85 8.23 9.21 8.34 9.74 8.15 7.85 8.20 7.88 8.07 8.07 8.39 7.14 8.26 7.32 8.20 8.96 8.34 7.11 8.40 8.90 8.32 7.54 8.43 9.05 8.39 8.25 8.46 8.92 8.55 8.50 8.55 7.81 8.69 7.96 8.54 8.00 8.55 8.04 8.83 8.73 8.70 8.57 8.67 8.54 8.67 8.647.94 8.46
    B. RBI’s OMO: Sales 34.00 - - 10.00 - - - - - 52 - - 96.00 - -
    Purchase - - - 25.00 - - 5.00 - - 40 - - 70.00 - -
    Sub-total 34.00 - - 35.00 - - 5.00 - - 92.00 - - 166.00 - -
    (A+B) 3. Market Repo 4. State Govt. Securities 8585.94 67958.14 164.66 7.86 7.89 8.29 9.67 5116.12 44328.44 114.94 8.00 8.00 8.36 7515.68 54051.75 9.54 201.18 7.99 8.04 8.59 2728.86 63146.12 10.49 46.28 7.92 8.33 8.79 23946.60 229484.45 8.44 527.06 7.94 8.01 8.46 9.85
    Grand total (1 to 4) 81079.72 52695.04 65329.69 70658.55 269763.00

    (-) means no trading YTM = Yield to maturity in per centage per annum CY = Current yield in per cent per annum SGL = (RBI’s) Subsidiary General Ledger OMO = Open Market Operations. Notes: 1) Yields are weighted yields, weighted by the amounts of each transaction. 2) Current yield has not been worked out for treasury bills.

    3) For Floating Rate Bonds (FRB’s) Current yields are based on the latest half-year yield determined in the auction.

    Economic and Political Weekly September 23, 2006 but, in the first instance, the maturity of the papers was shifted to shorter tenures instead of the scheduled medium- and long-term ones. In this instance, 9.39 per cent 2011 and 7.59 per cent 2016 were re-issued for notified amounts of Rs 6,000 crore and Rs 3,000 crore, respectively, through pricebased auctions using a multiple price method. For these, the minimum underwriting commitment (MUC) and additional competitive underwriting (ACU) were set at Rs 177 crore and Rs 2,991 crore, and Rs 89 crore and Rs 1,487 crore for the 5-year and 10-year papers, respectively. The underwriting commission for the 10-year paper was higher at 1.99 paise as against 1.87 paise offered in the previous month. For the 5-year paper, 239 competitive bids were received for Rs 15,317 crore, of which 61 bids worth Rs 5,978 crore were accepted at a cut-off yield of 7.94 per cent. In case of 10-year paper, 219 competitive bids for Rs 9,714 crore were received, of which 25 bids worth Rs 2,978 crore were accepted at a cut-off yield of

    8.27 per cent as against 8.29 per cent set in July. The balance were assigned to noncompetitive bidders and there was no devolvement on primary dealers.

    On August 18, the government re-issued

    8.07 per cent 2017 and 8.33 per cent 2036 for notified amounts of Rs 5,000 crore and Rs 3,000 crore, respectively, through the same price-based auctions using the multiple price method. The MUC and ACU were set at Rs 148 crore and Rs 2,484 crore, and Rs 89 crore and Rs 1,487 crore for the 11-year and 30-year papers, respectively. For the 11-year paper, the underwriting commission was set at 1.47 paise which was much lower than that offered on the 10-year paper in the first auction of the month. For the 11-year paper, 314 competitive bids worth Rs 15,733 crore were received, of which 53 bids for Rs 4,980 crore were accepted at a cut-off yield of

    8.12 per cent. In case of the 30-year paper, 141 competitive bids were received for Rs 7,936 crore, of which 58 bids worth Rs 2,994 crore were accepted at a cut-off yield of 8.73 per cent. Both the cut-off yields were somewhat lower than those prevailing in the secondary markets.

    Four state governments sold 10-year papers to mobilise Rs 1,050.825 crore through a yield-based auction using the multiple price auction method. All the papers were oversubscribed at a uniform cut-off yield of 8.11 per cent; notably, in July, Rajasthan had to pay 8.62 per cent for the same maturity paper.

    Treasury Bills

    Overall, yields on treasury bills at primary issues eased in August as compared to those in July even though they displayed some mixed trends in individual auctions. The yield on 91-day TBs ruled steady at

    6.44 per cent in the auction held on August 2 as that on July 26, but eased to 6.36 per cent on August 9, only to rise again to

    6.40 per cent on August 16; it ruled steady at it on August 25 but rallied to 6.44 per cent on August 30 (Table 4). Similarly, the yield on 182-day TBs eased from 6.76 per cent on July 26 to 6.69 per cent on August 9 but rose to 6.72 per cent on August 23 (Table 5). In the case of 364-day TBs, the yield declined continuously from 7.02 per cent on July 19 to 6.99 per cent on August 2 and to 6.96 per cent on August 16 and finally to 6.93 per cent on August 30 (Table 6).

    Corporate Bonds Market

    Despite the gilt-edged market being buoyant, the mobilisations through corporate bonds fell from Rs 6,067 crore in July to Rs 4,002 crore, though it was higher than that mobilised a year ago at Rs 3,725 crore. As usual, banks and FIs dominated the market by mobilising Rs 3,540 crore (88 per cent), followed by NBFCs raising Rs 262 crore and a sole central government undertaking borrowing Rs 200 crore (Table 7).

    Following the easing of yields on giltedged securities, the coupons offered on bonds in the month of August also eased. For instance, NABARD had offered 8.05

    8.20 per cent for three-year bonds in July, but for the same maturity in August only 7.85-8.00 per cent was offered. Despite having the same rating, while Punjab National Bank (PNB) offered 8.95 per cent for 10 years, State Bank of Bikaner and Jaipur had to offer 9.15 per cent for its lower tier-II bonds. Interestingly, though hybrid capital carries bigger risk for investors than bonds, credit rating agencies granted them the same rating as that for subordinated debt issued by the banks.

    IV Secondary Market

    The range of weekly average turnover in government securities between Rs 8,277 crore and Rs 33,431 crore works out to be the highest so far in the current fiscal year as uncertainties around interest rates have been abated following the US fed pausing its two-year old monetary tightening cycle as well as the easing of international crude oil prices. In the initial part of August, yields on gilt-edged papers were influenced by the increases in RBI’s repo/ reverse repo rates, but thereafter, the yields began to fall and the fall has been generally uniform in all maturities. Also, as a result of the normalcy in the financial markets and the markets discounting the future across maturities fairly uniformly (Appendix Table) amidst buoyant macroeconomic growth as indicated by the rise in the index of industrial production as well as robust exports growth, the yield curves have appeared steeply upward sloping – a situation of steady growth and normal expectations.

    RBI Reverse Repos, OMOs and MSS

    Given the outflows towards the dated securities auctions, the daily average size of LAF reverse repo bids tendered and accepted declined during the month from Rs 49,134 crore in July to Rs 37,087 crore. The range of bids tendered declined sharply to Rs 23,985 crore-Rs 49,690 crore in August as against a range of Rs 37,025 crore-Rs 70,935 crore in July. Also, within August, the daily average of reverse repo bids accepted have steadily fallen from Rs 48,142 crore in the first week ending August 3, 2006 to Rs 27,762 crore in the last week ending August 2006. As a result, the net outstanding got halved from a peak of Rs 49,690 crore as on August 2 to Rs 23,985 crore on August 25 (Table 8).

    Pari passu with the widening of the secondary market transactions including money market and CBLO deals, repos outside RBI increased from Rs 2,40,400 crore in July to Rs 2,97,022 crore in August. Interestingly, discount rates were also lower in August.

    Commercial Bonds

    The turnover in corporate bonds too increased from a daily average of Rs 53 crore in July to Rs 64 crore in August. With an environment of easing interest rates, market sentiments favoured floating rate bonds in which the trading jumped to Rs 145 crore from Rs 30 crore in July.

    EPW

    [The required tabular data for this note has been compiled by V P Prasanth while the note has been prepared by Piyusha Hukeri.]

    Economic and Political Weekly September 23, 2006

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