India's RBI taps longer-duration reverse repo to absorb liquidity; offers early exit option

MUMBAI, Sept 4 (Reuters) - India's central bank said on Friday it would conduct a 30-day variable rate reverse repo (VRRR) auction worth 7 trillion rupees ($74.09 billion) on September 7, with an early redemption option aimed at encouraging banks to park excess funds while retaining flexibility to withdraw them if needed.

The move comes as the banking system's liquidity surplus swelled to a record 10.3 trillion rupees on September 3, driven largely by foreign-currency deposits raised under a special RBI ⁠scheme and subsequently swapped with the central bank.

The Reserve Bank of India (RBI) has been conducting overnight to seven-day VRRR auctions and held a 15-day operation earlier this week, but longer-tenor auctions have often been undersubscribed as banks were reluctant to part with funds for extended periods.

"Reverse repos with flexibility in terms of redemption have been the demand of most market participants and should see better response from banks compared with plain-vanilla ⁠reverse repos," a senior treasury official said.

Barclays said in a note issued before the announcement that the success of liquidity absorption measures depends less on the size of auctions and more on banks' willingness to deploy surplus ⁠cash.

ICICI Securities Primary Dealership, however, questioned the effectiveness of the new feature in absorbing liquidity over longer periods.

"When RBI sucks out durable or core liquidity for ⁠a certain period it would need to be in control of the process and have visibility on the duration and amounts sterilised. ⁠By giving banks the option of premature withdrawal from VRRRs, RBI would lose control over liquidity management," it said.

($1 = 94.4850 Indian rupees)

Reporting by Dharamraj Dhutia and Nishit Navin; Editing by Anil D'Silva

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