A drop in government spending amidst ongoing elections has resulted in a shortage of cash in the banking system. The deficit is marked at ₹40,859 crore as compared to ₹15,857 crore surplus last year in the same time period, suggests a data from Bloomberg banking liquidity gauge.
“Government spending has come to a grinding halt since April,” said Soumya Kanti Ghosh, chief economist at State Bank of India. “This is resulting in an unusual spike in the liquidity deficit”.
The surprise squeeze could be an obstacle in interest rate transmission. The Reserve Bank of India (RBI) has lowered benchmark interest rates at its last two reviews to perk up the sluggish economy. Tighter liquidity will make banks reluctant to lower rates.
“The existing liquidity deficit in April is unprecedented,” said Upasna Bhardwaj, senior economist at Kotak Mahindra Bank. “Lack of government spending has primarily triggered this shortfall in the country’s banking system. Going ahead in the next two weeks, we expect the system liquidity deficit to tighten further on the back of outflows from GST (goods and services tax) collections and auctions in the absence of aggressive government spending.”
‘CREDIT GROWTH HIGHER THAN DEPOSIT GROWTH’
To be sure, the situation is easier than it was in April when the liquidity deficit was as much as Rs 1.49 lakh crore. Steps taken by the RBI contributed to the alleviation. Cash in the system is expected to stabilise once the election ends and a new government is in place after votes are counted on May 23.
“Things should improve once elections end and the currency leakage stops,” Ghosh said. “From June onwards, it should be normalised.”
Bhardwaj echoed this sentiment: “The system should be back in surplus from next month once the government begins to spend post polls.”
On May 13, the government’s surplus cash balance was at Rs 44,315 crore, according to Reserve Bank of India data. That compares with almost nil at the same time last year. A higher cash balance points to little government spending. The cash balance was at ?79,400 crore on April 30.
“If the liquidity deficit extends and persists, then you can expect stiff GSec (government securities) yields, which would not respond to policy actions,” said CARE Ratings chief economist Madan Sabnavis. “Today, credit growth is higher than deposit growth. This too is aiding the banking liquidity deficit.”
Since FY18, bank credit growth has surpassed deposit growth, which has also constrained liquidity in the banking system. Deposit growth as of April 26 was at 9.7%, two percentage points higher than a year ago. Credit growth was at 13%, up by 0.7 percentage point from a year ago, according to CARE Ratings data.
RBI has been taking measures to control cash availability in the banking system. The moderation in the deficit in the week ended May 10 was mostly due to liquidity infusion by way of open market operations (OMO). Besides, the central bank has conducted dollar-swap auctions to inject liquidity worth about $10 billion.