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December 2012

Indian call money rates moved in the range of 7.95-8.10% during the month with rates tightening - especially in the later part of the month - due to tight liquidity in the banking system. Rates were also pushed up due to strong demand from banks to meet fortnightly reserve needs for the reporting fortnight. Widening of liquidity deficit in the banking system due to higher currency in circulation and rise in credit disbursement during the festival season also kept the overnight rates firm. Meanwhile, the Reserve Bank of India’s (RBI’s) deputy governor, Mr H. R. Khan, said that higher-than-anticipated currency leakage from the banking system amid festivals, increase in the government's cash balances, and the gap between deposit and advances growth were the main reasons for the liquidity tightness.

Gilt prices gained in the month with the yield on the 10-year benchmark 8.15%, 2022 bond ending at 8.18% on November 30, 2012 compared to 8.21% on October 31, 2012. Prices rose mainly after expectations of open market bond purchase by the RBI came alive later in the month as liquidity in the banking system remained tight. These hopes came true towards the end of the month after the RBI said that it would purchase up to Rs 12,000 cr worth of four dated securities under open market operations on December 4. Prices were also supported by hopes of rate cuts by the RBI following weak IIP numbers and lower-than-expected WPI inflation data released during the month. Finance minister, Mr P Chidambaram, said that there is no immediate plan for additional market borrowing for the year – this comment boosted sentiment for gilts. Intermittent value buying and short covering also supported gilt prices. 

Further rise in prices was, however, restricted after the RBI deputy governor, Mr K. C. Chakrabarty, said that inflation needs to come down for a reduction in interest rates. A decline in prices was also seen earlier after a tepid response to the government's auction of 1800 MHz spectrum raised worries that the government might borrow a higher-than-scheduled amount to meet its funding needs. Sentiments were dented after India’s third quarter GDP numbers did not fall sharply as expected; the growth slowed to 5.3% in July-September as compared to a 5.5% growth in the second quarter.

Indian government borrowing will remain high in the current fiscal and the pressure on 10-year G-sec yields may continue. Despite an expected 25-50 bps cut in the repo rate during the rest of the fiscal.