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CRR & Repo Hiked Again

The fresh round of monetary tightening has come as a shock to the market. Liquidity is likely to remain tight in the near term leading to a sell off in the bond market

The news of the 50 basis points (100 basis points equals one per cent) increase in the cash reserve ratio (CRR) and 25 basis points increase in the repo rate has come as a rude shock to traders. The RBI's first two rounds of monetary tightening have had only a marginal impact in containing money supply. Traders were also caught off-guard as the RBI first reduced its intervention in the currency market and then followed it up with the market sterilization scheme auctions. With such measures undertaken, an interest rate revision was not imminent to many. Call rates have zipped to all time highs for almost a fortnight now. With tight liquidity in the market there will be little participation over the forthcoming week. A broad based sell off from the banks is expected.

Over past week, bond yields increased by 9 basis points; the 10 year benchmark 8.07 per cent GOI 2017 bond rose to 8.04 per cent on Friday, March 30, as against the previous week's close of 8 per cent (as on March 23). The yield on the benchmark bond did stage a slight recovery which was diluted by the new borrowing calendar issued by RBI wherein more than 59 per cent of the government's requirements will be raised in the first half of the fiscal. This is likely to further exasperate the already tight liquidity situation. Call rates continued to remain high and closed at 40-50 per cent on Friday. Inflation remained unchanged for the third week in a row at 6.46 per cent as on March 17.

Traders will react to the new interest rates only on Tuesday, April 4, as the RBI made this announcement after trading hours on Friday, March 30 and the market will remain closed on Monday.

Yields are likely to move taking cognizance of the liquidity situation in the market. The situation can be further exasperated by the Rs 6,000 crore MSS auction slated for April 4. With little demand expected here, bond yields can witness a spike.