Insiders: Indian lenders request central bank to ease liquidity regulations before policy meeting

According to five treasury department officials, Indian lending institutions are urging the central bank to adjust liquidity regulations to alleviate the deposit shortage, as rising bond yields have taken a toll.

Since February 2025, the Reserve Bank of India has cut the repo rate by a cumulative 125 basis points, but the 10-year benchmark bond yield remains near last year’s level. Meanwhile, as deposit growth lags behind credit demand, banks have found it difficult to lower lending rates in tandem.

The market widely expects the Reserve Bank of India to announce an unchanged policy rate this Friday.

Although the central bank has injected record liquidity into the market, its foreign exchange interventions have withdrawn a large amount of rupee liquidity, leaving banks still facing funding shortages. As a result, lending institutions are reluctant to take up government bonds sold by the central bank through open market operations, which in turn drives bond yields higher.

The above-mentioned unnamed treasury officials (who were not authorized to speak to the media) said banks are seeking two policy adjustments: first, to delay the implementation of the new liquidity coverage ratio regulation set to take effect on April 1; and second, to obtain greater flexibility to adjust bond allocations between the held-to-maturity and trading investment portfolios.

The officials also stated that banks have raised three additional requests: to include a portion of the cash reserve as high-quality liquid assets, to be allowed to accept larger and longer-term deposits, and for the central bank to continue its bond purchase and foreign exchange operations.

They added that these proposals have recently been formally presented in meetings with the Reserve Bank of India.

As of now, the Reserve Bank of India has not commented.

The revised liquidity coverage ratio rule has further intensified banks' funding pressures. The new regulation, effective April 1, requires banks to set aside a 2.5% buffer reserve against digitally linked deposits, and treasury department officials have proposed a postponement of its implementation.

Banking industry insiders have stated that providing regulatory flexibility on the liquidity coverage ratio and delaying its implementation could effectively ease funding pressures for banks.

Treasury professionals have also called for allowing banks to sell held-to-maturity securities more flexibly outside the central bank’s open market operation tenders.

Since April 2024, the Reserve Bank of India has tightened investment rules: banks wishing to sell securities from their held-to-maturity portfolio (which do not require mark-to-market valuation) must obtain dual approvals from their board of directors and the central bank.

Traders say this regulation has made banks, especially state-owned banks, reluctant to buy bonds aggressively and is one of the reasons for the recent rise in bond yields.

Currently, Indian banks are required to keep 3% of their total deposits as a cash reserve with the central bank. Banks hope that a portion of this can be counted as high-quality liquid assets—another required type of liquidity buffer.

Neeraj Gambhir, Executive Director of Treasury, Markets, and Wholesale Banking Products at Axis Bank, said: "Currently, the maximum term for large transferable certificates of deposit that banks are allowed to issue is only one year. This not only creates continuous renewal pressure, but also exposes banks’ asset-liability management to the impact of rising short-term rates."

He believes that allowing banks to issue large transferable certificates of deposit with a maximum term of three years would help optimize banks’ asset-liability management.

Editor: Liu Mingliang