Hi,
The RBI has recently been undertaking Targeted
Long Term Repo Operations (TLTRO) to infuse liquidity 💵into the
banking system. A total of Rs 75,000 crs have been infused for a period of 3
years since March 27. So what exactly is this TLTRO🤔 and how different
are the dynamics of this newly baked 🎂instrument from RBI’s conventional measures. For this, read on
Post #4️⃣of the
Quarantine Series.
Q1. What is a TLTRO?
A1. Targeted Long Term Repo Operations is an
instrument announced by the RBI wherein the RBI infuses liquidity into the
banking system for a duration of 3 years (as decided presently). For the time
being, the RBI has decided infusion of Rs 1 lakh crs into the banking system at
a “floating 🏄♂️rate linked repo rate “(In simple words, repo rate is the rate
at which the commercial banks borrow from the RBI, which at present is 4.4%).
Repo operation means that the central banks provides temporary liquidity to the
banking system for a specific duration under the Liquidity Adjustment Facility
(LAF) and in turn takes government securities from the banks. This transaction
gets reversed on the maturity date.⏳⏱️
*To illustrate*: on 27 March, the RBI
undertook a TLTRO of Rs 25,000 crs for a period of 3 years. In this
transaction, the banks will place the government securities (which it holds)
with the RBI and inturn the RBI will infuse Rs 25,000 crs into various banks.
This is an auction based process and is not based on discretion of the central
bank. 3 years later (on March 24, 2023), this transaction will be reversed and
money will flow from the banks to the RBI and government securities will move
in the opposite directions.↪️↩️🔂
Q2. How is the TLTRO system different from the
other repo operations which the RBI undertakes?
A2. The RBI used to initially undertake daily
and 14-day repo operations for temporary liquidity adjustment i.e shortfalls in
liquidity in the banking system. *The Revised Liquidity Management Framework of
the RBI*(announced in February, 2020) clearly mentioned the withdrawal❌🚫 of the daily
and 14-day repo operations but added that they will conduct these operations if
needed to manage frictional liquidity shortages.🤝👌
In addition, in February, 2020, it was also
decided to conduct long term repo operations (LTRO)🤔 (“again
something new by the RBI”)😯 of 1-year or 3 years aggregating Rs 1 lakh crs with an
objective to provide liquidity to the banks at reasonable cost (at the repo
rate). The objective here was to clearly reduce⬇️ the cost of
borrowings📉 for the banks which in turn would mean lower borrowing cost for
the banks’ customers. However, the stated objective was not achieved and it
gave way to another instrument in the name of TLTRO.😎
So what is the exact difference between the 3:
daily/14 day term repo, LTRO and TLTRO. Daily and 14-day repo operations of the
RBI are specifically to manage the short-term liquidity shortfalls in the
banking system💰💰. The LTRO was intended to infuse liquidity
for a longer duration so that the banks can borrow the money at a lower
interest rate and lend it to the customers for a longer duration. TLTRO on the
other hand has a similar purpose as the LTRO but has a stringent🔨 and added
guideline over and above the LTRO. It also has certain additional caveats.
The liquidity availed by the banks in the case
of TLTRO has to be specifically deployed by the banks into investment grade
corporate bonds, commercial papers and non-convertible debentures.✅ Another
difference between the LTRO and TLTRO is the rate of interest. The rate of
interest in case of the LTRO has been fixed⛔ at the repo
rate at the time of when money was lent, but in case of TLTRO, the rate is
decided to be floating🏄♂️. So a change in repo rate going ahead would further lower the
rate for the banks. Also, the primary objective of TLTRO is different, which
will be addressed in the next question.
Q3. What was the reason for the introduction
of a new instrument?
A3. Primarily, it is important to understand
the objective behind this introduction, which is also another difference
between LTRO and TLTRO. It was announced by the RBI on the back of intended
sell-offs in the domestic equity, bond and forex markets seen in the month of
March’20 amidst the rising COVID-19🤧 cases across the globe🌍. This in turn had led to surge in yields in the corporate bond
market and thus in order to avoid financial tightening in the economy, this
instrument was added into its arsenal by the RBI🤓. The broader
question was that when the banking system is originally flushed with so much
liquidity (more than Rs 2.5 lakh crs), then what is the use of this instrument.
It is important to understand that the money was getting channelized only between
the RBI and the banks and was not reaching out to other channels namely the
lending markets, mutual fund houses (which were in need of money).😳🥺😭 There was
liquidity deficit in the other markets which in turn led the RBI to infuse
liquidity via this instrument.
Q4. How do banks treat this money and account
for it?
A4. In accounting terms, the money received
from the RBI will be treated as “borrowing” from the RBI. The investment made
by the banks is treated as “investment” under HTM (Held to maturity) category
and will remain in this category till maturity. This investment is different
from other types of investments of a bank namely AFS (Available for Sale) and
HFT (Held for Trading). This is because HTM investments are not
“mark-to-market”. In simple terms it means that these investments will be
recorded at acquisition cost and there will be no regular fluctuation in the
value of the investments.
Q5. Does the bank invest in the primary market
or secondary market? What happens if the bank does not deploy the money?
A5. The banks have been given 30 days for deploying
the money received. 50% of the deployment has to be in the primary market while
the balance in the secondary market. The RBI has also added that these limits
are not subject to any fungibility.🚫 In case the banks are not able to deploy the funds within the
required 30 days, the interest charges will be 2% more than the repo rate
(4.4%) for the period of non-deployment of funds.
Q6. How is this instrument different from an
OMO purchase of the RBI?
A6. An Open market operation (OMO) undertaken by
the RBI infuses permanent or durable liquidity into the banking system. The RBI
purchases the government securities from the banks and in turn pushes money
into the banking system. This transaction does not get reversed in the future🚫🔄. On the other
hand, all three types of repos explained above including TLTRO will get
reversed after the given duration period (3 years in case of TLTRO).
To conclude: The RBI has undertaken 3 such
TLTROs since March 27 aggregating little more than Rs 75,000 crs so far. The
temporary relief from the spike in the corporate bond yields was short-lived
and the corporate bond yields in the secondary market have again picked up.😭😔 However, the
reason here is little bit different and requires a separate note 🆗. The objective
and implementation of this new instrument is good but it all depends on the
linkage between the banks and the borrowers of funds.
The novel coronavirus pandemic has bought out
a plethora of instruments available with the RBI into the forefront to
attenuate the economic loss. As Ben Bernanke🕵️♂️ said,
“monetary policy has never proved able to reverse large shocks⚡💥☄️🌩️🌊. It only helps
to mitigate the worse effects of shocks, and speeds up the recovery✅.” The RBI has
used multi-pronged approach to address the current pandemic situation but it is
important to note that it is not going to be the first line of defense to
mitigate the spreading of the virus and from a student’s point of view, it is
important to note that tools like LTRO and TLTRO are over and above the
conventional monetary policy channel of interest rate cuts to revive economic
growth. Also, this is not the only arsenal which the RBI has and it can further
draw clues🧐 from global central banks🇺🇸🇬🇧 to manage
liquidity and undertake monetary policy. Each new instrument means a new study
to understand its nitty gritty. Hope this helps. 😃
Regards,
Sushant
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