Yet another view originates

Jan-07 927.18 2,830.00 44.33 ~

15000

37

10000

Net foreign currency in $ Million

5000

Rupees per dollar

May-07 4,692.30 4,426.00 40.78 111.17

risk-less gain to market partici

0

Jun-07 3,076.80 3,192.00 40.77 110.58

pants since the rupee has been

-5000

Jul-07 8,889.47 11,428.00 40.41 110.39

expected to appreciate consist

Aug-07 -248.15 1,815.00 40.82 109.44

-10000

ently over a horizon and there

Sep-07 6,845.28 11,867.00 40.34 110.39

-15000

Nov-07 674.99 7,827.00 39.44 109.36

Dec-07 4,477.06 2,731.00 39.00 109.94

Jan-08 -859.44 13,625.00 39.37 109.51

Feb-08 1,910.81 3,884.00 39.73 108.33

Mar-08 4,226.60 2,809.00 40.36 106.35

Apr-08 1,005.62 4,325.00 40.02 107.57

May-08 -6.75 148.00 42.13 103.88

Jun-08 -1,135.25 -5,229.00 42.81 103.71

Jul-08 2,913.51 -6,320.00 42.84 103.35

Aug-08 1,615.07 1,210.00 42.94 106.50

Sep-08 1,576.95 -3,784.00 45.56 102.44

Oct-08 -3,140.07 -18,666.00 42.49 97.71

Nov-08 2,103.28 -3,101.00 49.00 97.98

Dec-08 2,258.08 -318.00 48.63 95.59

Jan-09 483.88 -29.00 48.83 94.81

Feb-09 -321.90 230.00 49.26 95.03

Mar-09 -346.01 -3,388.00 51.23 91.47

Apr-09 2,089.13 -2,487.00 50.06 94.26

May-09 4,071.60 -1,437.00 48.53 97.01

Jun-09 2,977.94 1,044.00 47.77 96.77

Jul-09 4,741.90 -55.00 48.48 96.27

Aug-09 2,034.10 181.00 48.33 97.16

Sep-09 5,772.10 80.00 48.46 96.92

Oct-09 6,013.80 75.00 46.89 99.50

Nov-09 3,683.90 -36.00 46.59 101.29

Dec-09 3,442.26 0.00 46.61 102.45

Jan-10 3,168.74 0.00 46.08 105.23

Feb-10 3,138.34 0.00 46.36 105.91

Mar-10 6,464.74 0.00 45.45 109.73

May-10 -808.70 0.00 45.81 114.00

Jun-10 4,215.29 0.00 46.57 113.34

1: Rise in indices indicates appreciation of rupee and vice versa.

more than matched the depletion in capital flows. There was almost an equivalent depletion in net foreign currency assets with RBI by $41.71 billion. The rupee in nominal terms steeply depreciated by 11.7% and in real terms, by a lower 7.17%.

(iii) During the third phase, the buoyancy in net capital inflows resumed with a cumulative inflow of as much as $49.18 billion. There were hardly any currency operations by the RBI and the net foreign currency assets further depleted by $4.60 billion. What is more significant to note is that the rupee has appreciated by 3.8% in nominal terms and by a much higher 11.6% in real terms, amplified by the inflation differentials.

(iv) Another significant observation is that volatility in terms of standard deviation and coefficient of variation was minimal during the hands-off period; it was the highest during the period of net sales of foreign currency by RBI and moderately high during the period of net purchases.

1.4 Implications

There are broadly three sets of issues. First, the high real appreciation in rupee can be viewed as harmful for the export sector. Hence, there will be pressure to depreciate the rupee. The widening current account deficit so far has been financed by the net capital flows and that way, the inflows have been absorbed by the market without causing volatility in the rupee value. But, what is significant to note is that the rupee in nominal terms stands at depreciated levels compared to the precrisis period. The real appreciation currently is more due to high inflation differentials and when the inflation is contained to moderate levels in the coming months and the prospects of deflationary tendencies in advanced markets receding with recovery, the real appreciation in rupee can be expected to get reversed quickly. Since the foreign exchange market is showing extraordinary stability, the RBI is naturally not inclined to end its hands-off strategy.

Second, any heavy purchases of foreign currency in the current context might again lead to the dilemma of managing excess liquidity. But a related question is whether the current level of reserves can be considered to be adequate and whether

Third, any expectation of continued appreciation in rupee, which is currently the case, may cause speculative build-up in the asset markets. This is already evident in stock and real estate markets.

All these factors have to be weighed carefully before a balance is struck.

2 Money, Forex and Debt Markets

Ever since the RBI hiked the policy rates in the first quarter review of monetary policy announced on 27 July, the market has been ripe with the expectation of further rate hikes, given the unrelenting inflation pressure particularly of non-food articles. This greatly influenced financial market sentiments during August. The tight liquidity conditions that prevailed due to the outflow of huge funds to meet 3G and broad band auctions got somewhat eased in August. The easing of liquidity was reflected in a lower injection of funds through RBI’s liquidity adjustment facility (LAF) window. This has caused all the segments of money market to witness some softening of rates, particularly towards the end of the month.

In the government securities market, central and state governments continued vigorously to raise funds. The market felt that there was oversupply of securities, given the sluggish deposit growth and pick-up in credit demand. Yields have firmed up particularly at the short end, while the secondary market volumes showed some further contraction.

The US dollar strengthened against most global currencies while the rupee depreciated marginally during the month. In the currency futures segment, the turnover fell in both the exchanges as in the previous month. In the corporate bonds market, the mobilisation of resources through issuance of bonds remained subdued compared to the previous month.

Promising a major fillip to the success of infrastructure bonds, the government has decided to exempt these bonds from getting

Table 3: Money Market Activity (Volume and Rates)

credit ratings – which are mandatory for all the other types of bond issuances.

2.1 Money Market

The short-term rates though continuing to rule high, softened a bit compared to the previous month reflecting the easing of liquidity conditions in the system. The weighted average call rates moved in the range of 3.66% and 5.84% during August slightly lower than the range of 4.43% and 5.88% of July. From the beginning of the month, the rates showed somewhat of an easing trend and during the first week of the month they ranged between 4.22% and 5.84%. The rates showed a similar behaviour and stayed range-bound during the second and third weeks. In the last week of the month the rates ruled relatively low and touched 3.66% on 24 August, the rates last seen in May. The month ended with call money weighted average rates ruling at 4.39% on 27 August compared to 4.43% in July. Similarly, the notice money rates also observed an easing trend and stayed in a range of 3.57% and 5.76% in August. The monthly weighted average rate of collateralised borrowing and lending obligations (CBLO) stood at 5.02% compared to 5.26% in the previous month. The weighted average rates of the market repo also eased to 5.12% from 5.39% during the review period.

The volumes in money market saw a massive reduction during the month over the previous month. The daily average turnover of call money transactions declined by 20% to Rs 6,705 crore in

Table 4: RBI’s Market Operations (in Rs crore)

Source: RBI’s Weekly Statistical Supplement.

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MONEY MARKET REVIEW

a notable 150 basis points

during the month, fol

lowing the appreciation

of dollar.

www.futures.tradingcharts.com

August. Similarly, the notice money and term money volumes witnessed a decline of 19% and 33%, respectively during a period of one month. However, the turnover of the major collateralised instrument, CBLO and market repo displayed a growing trend and gained 53% and 29%, respectively, during the month (Table 3, p 72).

The volume of outstanding certificates of deposit (CDs) dipped by about Rs 2,900 crore during a period of one fortnight and the total outstanding amount stood at Rs 3,24,810 crore on 30 July. Contrary to this, the volume of outstanding commercial papers (CPs) added around Rs 5,000 crore during the same period and the outstanding CPs stood at Rs 1,12,704 crore on 31 July. The interest rate on CDs hardened since the banks were compelled to raise deposit rates to reverse the sluggish growth of deposits. The discount rates on CPs also firmed up as the demand for commercial paper issues went up after the introduc-

In the domestic market, the rupee depreciated marginally against the dollar and other currencies but lost substantially against the Japanese yen during August. As in the past two months the FIIs invested heavily both in equity and debt markets in August also and the net investment during the month stood at Rs 14,700 crore or $3.2 billion on top of Rs 25,000 crore or $5.3 billion of the previous month. Still, the performance of local equity markets remained lacklustre during the month and dampened the sentiments in the forex market.

The rupee started the month with a gain of 27 paise to touch Rs 46.19 against the US dollar on 2 August aided by inflows and strong stock market performance. Thereafter, the rupee was flat against the dollar till 5 August amid the demand for dollars by importers but on 6 August the rupee touched Rs 46.02 per dollar boosted by an unhindered flow of funds into the domestic stock markets. Again, the rupee started to depreciate continuously for four days in a row and weakened by 95 paise against the dollar, on fears that the current account deficit might widen following the rise in crude oil prices. On 13 August the domestic currency recorded a massive gain of 36 paise per dollar as recovery in the stock market heightened sentiments. On 14 August the rupee again fell tracking the euro’s fall as concerns about weaker euro zone economies sparked a bout of risk aversion, triggering dollar demand from domestic importers. Thereafter, the rupee was stable till 20 August. From 23 August onwards the rupee paired its earlier gains and continued to depreciate till 27 August except on 26 August as the RBI raised concerns about inflation which led to strengthening of expectations that the central bank might raise the borrowing cost again for a fifth time this year. The rupee touched its lowest level on 25 August at Rs 46.93 per dollar and ended the month at Rs 46.89 per dollar on 27 August. Overall, the rupee depreciated by 0.85% during the month over

dow as the average daily injection of funds stood at a meagre Rs 1,200 crore during the month as against Rs 49,000 crore infused during the last month. The RBI’s open market operations window continued to remain dormant with a meagre net sales figure of Rs 11 crore (Table 4, p 72).

The interest rate futures segment of the

gible turnover of Rs 50 lakh during August.

2.2 Forex Market

The US dollar gained its position as a safe

Economic & Political Weekly

the previous month-end and moved along transactions shed 7% during Graph C: Yield Curves for Dated Securities – Weighted Averages for August 2010

with local equity markets coupled with the month. Similarly, the spot 8.50

3-months ago Previous month Current month

Table 8: Predominantly Traded Government Securities (Amount in Rs crore)

september 18, 2010 vol XLV No 38

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MONEY MARKET REVIEW

Auctioned securities are due to mature in 2015, 2017, 2020, 2022, 2027, 2032, and 2040. Barring securities maturing on 2032 and 2040, all other securities were auctioned twice in the month. The cut-off prices inched up for two securities maturing on 2022 and 2027 in the second auction with a consequent fall in yield.

A high inflation rate, slow government spending and advance tax outflows due in September, uncertainty about the supply of government securities in the second half of the year and combined tightness in conditions, all affected yields of government securities in both primary and secondary market segments.

In the secondary market, total traded volume tumbled by almost 9% to Rs 2,29,376 crore with monthly YTM of 7.84% against Rs 2,50,927 crore in July with YTM of 7.57%. Overall the yields have firmed up. Most traded securities were 7.80% 2020 and 8.13% 2022 with traded amount of Rs 98,687 crore and Rs 59,727 crore, respectively, contributing to 69% of traded volume. Other than these two securities, 7.17% 2015 – a five-year security – also traded for Rs 25,476 crore. Northward movement in yield tracking uncertainties in the market had continued across maturities in this month also, with exception of 8.13% 2022. Increase in yields was distinct for securities with short-term maturities and a moderate increase was seen in longer-term securities. The yield spread as a result narrowed for securities maturing between one to five years at 137 basis points in August from 184 basis points in July and the spread between 1 and 10-year also shrunk to 157 basis points from 208 basis points in July (Table 8, p 74 and Table 9).

State Development Loans (SDLs) were auctioned twice, on 3 August and on 24 August, raising a total amount of Rs 7,921 crore in August against Rs 8,319 core in July. As in the past, relatively lower supply and higher yields attracted investor interest in state loans. Yield to maturity and weighted average yield nevertheless increased to 8.36% and 8.37% respectively in August, against 8.17% and 8.14% in July. Yields in the second auction were higher compared to the first auction. The response was also better in the later auction than the earlier one. Overall, for the month, the bid cover ratio improved to 3.13 times in August from

Economic & Political Weekly

2.34 times in July. The only state which approached the market twice was Tamil Nadu, raising Rs 937 crore in each auction. The quantum of traded volume in secondary market for the SDLs decreased to Rs 2,339 crore with increased YTM of 8.21% against Rs 3,041 crore with YTM of 8.01% in July. The traded volume of the last week to the tune of Rs 1,167 crore was better than the first week’s Rs 746 crore (Table 10).

2.4 Treasury Bills

There was a leap in total auctioned volume of treasury bills (TBs) in August at Rs 33,000 crore, over the total volume of July at only Rs 13,000 crore. This considerable shift in auctioned volume was contributed by 91-day TBs, with 250% higher auctioned volume in August at Rs 28,000 crore as compared to only Rs 8,000 crore in July. Total auctioned amount of rest of the TBs remained flat over the last month, that is Rs 3,000

crore for 182-day TBs and Rs 2,000 crore for 364-day TBs. The lower bid cover ratio across the maturities of TBs in August over July and increased cut-off and weighted average yields are partly due to oversupply of 91-day TBs. The strong preference of the government to borrow short term perhaps portends the possibility of the government reducing its overall medium- to long-term borrowings from their budgeted amounts for the fiscal year, taking advantage of 3G and broadband auction revenues to cut fiscal deficit (Table 11).

Total traded volume in secondary market for TBs tumbled by almost 30% to Rs 18,373 crore in August against Rs 26,139 crore in July. This fall in volume was across all maturities. Traded volume fell the most in 182-day TBs by 72% in August at Rs 1,955 crore with YTM of 6% against Rs 6,905 crore in

vol XLV No 38

July with YTM of 5.51%. Traded volume of 364-day TBs also plunged by 47% in August at Rs 2,918 crore with YTM of 6.25% against Rs 5,537 crore of July with YTM of 5.71%. The traded volume in 91-day TBs at Rs 13,500 crore in August remained almost flat, though the yield went up to 5.90% against 5.50% in July (Table 12, p 76).

2.5 Corporate Bonds Market

The primary issues in the corporate bonds market fell by 40% compared to the previous month and the total amount raised stood at Rs 7,342 crore in August with a green shoe option of Rs 250 crore. The mobilisation of funds declined over the corresponding month of the previous year also by 23%.

Banks/financial institutions (FIs), the major contributors, accounted for 53% of the total mobilisation through 10 issues raising an aggregate amount of Rs 4,201 crore. The bonds carried coupon rates