Banks have borne the brunt of the demonetisation exercise. They have deployed the bulk of their manpower to deal with it; they have spent a lot of money to get cash where it is needed and to rejig their ATMs; they have had to pay interest on the massive influx of forced deposits and the dislocation has led to a curtailment of all other business, including lending.
But, apparently, this is not enough.
Instead of giving the banks a medal for exemplary service, the Reserve Bank of India (RBI) has now slapped a punitive 100% cash reserve ratio (CRR) on the increase in net demand and time liabilities between 16 September and 11 November, and this measure will be in place till 9 December. It’s anybody’s guess what will happen after that date.
This decision, taken with retrospective effect, is ostensibly to mop up liquidity with banks. RBI does not have the bonds used as collateral for reverse repos and instead of going in for cash management bills or short-term T-bills, it has chosen CRR, perhaps because the other options will result in interest payments and are, therefore, more costly. Since banks will not earn any interest on the amounts kept as CRR, the move will affect bank bottom lines.
Liquidity remains abundant; so, while bond yields may spike, the impact is likely to be temporary. The bets are still on RBI cutting its policy rate at its next monetary policy announcement on 7 December. But bank stocks have outperformed the broader markets in recent times, and it is likely they will correct.
What is more important is the dent the recent events have made on RBI’s reputation. Despite such a major disruption in the nation’s monetary system, no attempt has been made to inform the public and the markets about what it thinks of the impact of the demonetisation or how long the current disruption will last or, indeed, why the CRR cut was chosen rather than other means to suck out liquidity.
In an uncertain situation, RBI should take steps to dispel the uncertainty rather than merely say it is doing all it can. RBI must realize that a lack of effective communication could affect its credibility..