There seems to be something drastically wrong with the short-term money market. Interest rates for overnight money fell to Japanese levels last week. At one point in a week with torrents of liquidity, call money was at 0.1% and collaterized borrowing and lending were taking place at only slightly higher rates. In short, money at the short end of the market was close to being free.
Just a few months ago, these same rates were sky-high at around 80%. These huge leaps and dives in short-term interest rates make a mockery of RBI’s stated objective to keep these rates within a corridor that is flanked by the repo and reverse repo rates—or between 6% and 7.75%.
Generally, one reason for volatile financial prices is the lack of market depth. This is an undoubted issue in India, especially after RBI capped how much banks can lend to it. The insane volatility in the money market also shows that liquidity forecasting is very poor in banks—and RBI.