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RBI cuts MSF rate by 50 bps to 9%

7th October, 2013

In order to improve liquidity conditions, the RBI has cut the MSF rate by 50 bps to 9% with immediate effect.. Also, RBI has decided to provide additional liquidity through term repos of 7-day and 14-day tenor for a notified amount equivalent to 0.25% of NDTL. Auctions will be announced every Friday beginning October 11, 2013.

Subsequent to the tightening measures announced since Mid July, the effective operating rate had moved up by 300 bps from 7.25% to 10.25%. RBI had cut MSF rate by 75 bps in September policy. With another 50 bps cut today, the spread between Repo and MSF is down to 150 bps. Our view has been that RBI would incrementally turn towards unwinding the exceptional liquidity tightening measures, with additional reductions in MSF and further relaxation in access to LAF. We expect the MSF spread over repo rate to move back to 100 bps as normalcy returns in the currency market. This should enable short end rates to settle lower from current levels.

As far as repo rate is concerned, the trajectory of inflation, especially the Consumer Price Index will determine the further move. In this environment, we could expect a gradual steepening of the curve, with the short end of the curve remaining attractive under the existing risk- return framework.

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