Liquidty Management
Outline
Concept of Liquidity
Objectives of Central Bank Liquidity Management
Sources of and Demand for Central Bank Liquidity
Nature of Central Bank Liquidity
Instruments of Liquidity Management
Operating Procedure of Liquidity Management
Legal Framework
Current Status of Liquidty
Issues and Challenges
Way forwards
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1. Concept of Liquidity
Liquidity refers to ease with which a range of assets can be converted into
cash without a significant loss of their values.
From the central bank perspective, there are three dimensions of liquidity:
a) Central Bank Liquidity
b) Market Liquidity
c) Funding Liquidity
Central bank liquidity refers to reserves held by BFIs with the central bank.
Central bank liquidity has three components:
o Reserve requirements
o Working balances/precautionary balances
o Excess balances 3
2. Objectives of Central Bank Liquidity Management
• From monetary policy perspective, central bank liquidity is important.
• The basic aim is regulating the level of money supply or the rate of interest consistent with
price stability and economic growth.
• In the process, it requires balancing the supply of and demand for central bank money.
• Ultimate objectives
a) Ensuring price stability
b) Promoting growth and employment
c) Maintaining domestic payments and financial stability
d) Sustaining external stability
• Immediate objectives
a) Managing overall liquidity of the system
b) Steering the short term interest rate
c) Signaling the stance of the monetary policy
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3. Sources of and Demand for Central Bank Liquidity
• The supply of and demand for central bank money determine short term rates.
• Sources of supply of central bank money are :
a) Autonomous Factors
(i) Change in NFA/BOP surplus or deficit
(ii) Change in treasury position with the central bank,
(iii) Change in bank notes in circulation and
(iv) Change in capital and other items, net.
b) Policy Factors: liquidity provided through monetary operations.
• The Demand for Liquidity :
i. Reserve requirements and
ii. Working balances for settlement
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4. Nature of Central Bank Liquidity Problem
a) Type of Central Bank Liquidity Problem:
At a point of time, there can be a case of excess or
shortage of central bank liquidity.
b) Nature of Central Bank Liquidity Problem
Near term/medium term
Secular/long term
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5. Instruments of Liquidity Management
a) Open Market Operations (OMOs)
b) Open Market Operations like Instruments
c) Interest Rate Corridor (IRC)
d) CRR/SLR
e) Foreign exchange market interventions
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a) Open Market Operations
Types of open market operations : Dynamic and Defensive
Dynamic open market operations are outright purchase or sale auctions. The
objective is to deal with long term liquidity problems.
Defensive open market operations are repo and reverse repo operations. The
objective is to deal with short term liquidity problem.
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Altogether there four types of OMOs:
i. Outright purchase auctions to inject long term liquidity into the system.
ii. Outright sale auctions to mop liquidity from the system.
iii. Repo auctions to inject short term liquidity into the system.
iv. Reverse repo auctions to mop up short term liquidity from the system.
Collaterals are needed for OMOs.
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b) Open Market Like Operations…
• There are two instruments used in Nepal:
i. Deposit collection auctions of maximum period of 3 months are used to
mop up liquidity from the system. Collaterals are not needed for their
operations. Dutch auction system is used for their issuance.
[Link] bonds of maturity period of one year are used to mop up
liquidity from the system. Dutch auction system is used for the issuance
of NRB bonds.
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c) Interest Rate Corridor (IRC)
• The Bank of Canada was the first central bank to introduce the interest
rate corridor (IRC) in 1994. Now a number of countries have IRC in
place.
• The main objectives of IRC are:
(a)Limiting volatility in shot term interest rates
(b)Managing liquidity of the system
(c)Signaling the stance of monetary policy
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d) Interest Rate Corridor in Nepal
The NRB in its monetary policy for 2016/17 introduced the
concept of IRC.
Initially, IRC in Nepal was hanging type. Nepal introduced
the fixed IRC through the 2017/18 monetary policy.
Features of the Corridor System in Nepal
The SLF rate currently fixed at 5 percent as ceiling of the
corridor.
The two week deposit collection rate fixed at 3.5 percent
works as the floor of the corridor.
The two week repo rate fixed at 5 percent is the policy rate.
The interbank rate is expected to hover around the policy
rate.
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Graph : IRC in Nepal
r
Upper bound
SLF rate
5%
Interbank rate
Two-week repo rate 3.5%
Two-week deposit
Lower bound Collection rate 2%
Liquidity
d) CRR/SLR
• CRR and SLR are used to deal with secular type liquidity problem. CRR/SLR
are cut to inject long term liquidity and vice versa.
• Currently, CRR is 3 percent and SLR is 10 percent for commercial banks.
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6. Operational Procedure of Liquidity Management
• Three aspects in operational procedure of liquidity management.
a) Selecting Operating Target : Choice is between quantity and price
(interest rate). NRB has moved to short term interest rate as the
operating target of liquidity management in Nepal.
b) Choosing Instruments:
o OMOs
o Policy Corridor
o CRR/SLR
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c) Designing an Overall Procedure
i. Setting up a Technical Model for identifying liquidity situation. NRB
has LMFF in place.
ii. Instituting a Committee for managing liquidity: NRB has OMTC in
place.
iii. Choosing Counterparties: NRB has chosen commercial banks,
development banks and finance companies as counterparties for
managing liquidity.
iv. Deciding on a Pool of Collateral: Treasury bills, development bonds
and NRB bonds are taken as a pool of eligible assets for managing
liquidity.
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v . Choosing a Tender Procedure…
(a) Fixed Rate Tender : Counterparties bid amount. This applies to IRC
related operations in Nepal.
(b) Variable Rate Tender: Counterparties bid both rate and amount.
There are two versions of variable rate tender:
i. Dutch Auction: Allotment takes place. This applies to NRB bonds and
deposit collection auctions.
[Link] Auction. Allotment to successful bidders takes place at the
rate or price they have bid. This applies to all open market instruments.
Such as sale, purchase, repo and reverse repo auctions.
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vi. Allotment
a. Outright Purchase Auction: Bid prices are arranged in an ascending
order. Preference is given to lower bid prices. The process goes on till the
announced amount is exhausted.
b. Outright Sale Auction: bid prices are arranged in a descending order.
Preference is given to higher prices. The process goes on till the
announced amount is exhausted.
c. Repo Auction: bid rates are arranged in a descending order. Preference is
given to higher rates. The process is goes on till the announced amount is
exhausted.
d. Reverse Repo Auction: Bid rates with corresponding bid amount are
arranged in an ascending order. Preference is given to lower rates. The
process goes on till the announced amount is exhausted.
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e. Deposit Collection Auction: Bid rate with corresponding
amounts are are arranged in an descending order. Preference is
given to lower rates. The process goes on till the announced
amount is exhausted.
f. In the case of IRC operations, each bidder gets the full amount
if the total bid amount is lower than the announced amount.
However, in the case, total aggregate bid amount is exceeds the
announced amount, pro rata is applied for the allotment.
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7. Legal Framework
NRB Act 2002.
खलु ा बजार कारोवार बबनियमावली, २०७१.
Master Repurchase Agrement.
Nichhep Sankalan Upkaran Sambandhi Karyabidhi 2071.
NRB Iond Issuance Sambandhi Karyabidhi 2072.
Two-week Deposit Collection and Repo Issuance
Sambandhi Karyabidhi 2073.
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8. Settlement Procedure
• Settlement Finality: It is done in real time. T+0 is applied.
• Money Settlement: Central bank money is used.
• Physical Delivery: Securities account is used.
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9. Current Status of Liquidity
• Liquity in the banking system has faced stress during the recent
months.
• Average excess liquidity in the banking system is 18 billion during the
last one month.
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9. Current Status of Liquidity
• BFIs demand for short term liquidity has increased.
Summary of Monetary Operation
(Rs. in Million)
mid-Oct
Details 2018/19 2019/20 2020/21
2020/21 2021/22
A. Liquidity Injection 322,488.97 219,155.00 438,277.10 - 1,008,171.57
1. Repo 162,460.00 108,550.00 50,000.00 - 150,000.00
2. Outright Purchase - - - - -
3. Repo Auction * 5,700.00 7,322.00 17,937.10 - 35,496.57
4. Standing Liquidity Facility 154,328.97 103,283.00 370,340.00 - 822,675.00
B. Liquidity Absorption 100,350.00 78,000.00 303,290.00 60,000.00 60,000.00
1. Reverse Repo 20,700.00 48,000.00 109,540.00 60,000.00 28,350.00
2. Outright Sale - - - - -
3. Deposit Collection Auction 79,650.00 30,000.00 193,750.00 - 31,650.00
4. Deposit Collection Auction * - - - - -
C. Net Liquidity Injection (+) / Absorption (-) 222,138.97 141,155.00 134,987.10 (60,000.00) 948,171.57 23
9. Current Status of Liquidity
• Interbank lending volume has increased.
Inter-bank Transaction Amount & Weighted Average Interest Rate
(Rs. in Million)
#
Among Others Overall*
Mid-month 2020/21 2021/22 2021/22
Amount Interest rate Amount Interest rate Amount Interest rate
August 11,705.0 0.32 27,910.0 2.71 333,464.0 2.18
September 18,536.0 0.25 63,102.0 4.38 314,843.0 4.68
October 18,739.0 0.25 31,599.0 4.91 271,580.0 4.95
November 12,220.0 0.25
December 17,360.0 0.24
January 23,040.0 0.26
February 27,480.0 0.64
March 17,620.0 1.27
April 12,720.0 1.92
May 5,540.0 4.13
June 20,200.0 3.58
July 28,460.0 4.30
Total 213,620.0 1.44 122,611.0 4.00 919,887.0 3.93
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9. Current Status of Liquidity
• Liquidity injection from the forex market intervention has declined.
Purchase/Sale of Foreign Currency
(Amount in Million)
Purchase/Sale of Convertible Currency
2020/21 2021/22
Mid-month Net Net
Injection Injection
US$ Nrs. US$ Nrs.
August 435.7 52,194.6 59.5 7,077.6
September 279.4 33,076.1 - 63.4 - 7,378.4
October 529.0 62,160.8 251.4 30,029.7
November
December
January
February
March
April
May
June
July
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Total 1,244.1 147,431.5 247.6 29,728.9
9. Current Status of Liquidity
• Implications :
• Interbank rate has increased to 5 percent from close to zero percent
during the peak of the COVID crisis.
Interest Rates
14.00
12.13
12.00
10.11 9.83
10.00 9.52 9.37 9.09 8.89 8.73 8.61 8.53 8.46 8.46 8.48 8.57 8.69
8.00
6.00
4.75 4.95
4.52
4.00 4.12
3.21 3.21
2.00 2.03 2.13
1.26
0.35 0.58
0.00 0.11 0.14 0.10 0.14
2019 2020 2020 2020 2020 2021 2021 2021 2021 2021 2021 2021 2021 2021 2021
July July Oct Nov Dec Jan Feb March April May Jun Jul Aug Sept Oct
G. Weighted Average Lending Rate (Commercial Banks) E. Interbank Rate (Commercial Banks)
F. Weighted Average Deposit Rate (Commercial Banks) H. Base Rate (Commercial Banks)$
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9. Current Status of Liquidity
• Implications :
• 2. Base rate of the BFIs and lending rate has started increasing.
Interest Rates
14.00
12.13
12.00
10.11 9.83
10.00 9.52 9.37 9.09 8.89 8.73 8.61 8.53 8.46 8.46 8.48 8.57 8.69
8.00
6.00
4.75 4.95
4.52
4.00 4.12
3.21 3.21
2.00 2.03 2.13
1.26
0.35 0.58
0.00 0.11 0.14 0.10 0.14
2019 2020 2020 2020 2020 2021 2021 2021 2021 2021 2021 2021 2021 2021 2021
July July Oct Nov Dec Jan Feb March April May Jun Jul Aug Sept Oct
G. Weighted Average Lending Rate (Commercial Banks) E. Interbank Rate (Commercial Banks)
F. Weighted Average Deposit Rate (Commercial Banks) H. Base Rate (Commercial Banks)$
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10. Causes of the Crisis
• Surge in credit Demand:
• Credit to private sector of the BFIs is Rs. 315 billion in the three
months compared to Rs. 129 billion a year ago. The y-o-y growth is 32
percent.
• Sluggish Resource Mobilization :
• Deposits of the BFIs has increased by Rs. 56 billion in the three
months compared to Rs. 187 billion a year ago. The y-o-y growth is
17.2 percent.
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10. Causes of the Crisis
• Sluggish Remittances:
• In the three months of 2021/22, remittances are down by 7.6 percent.
• Surge in Imports:
• During the three months imports increased by 64 percent. (Rs. 478
billion compared to Rs. 292 billion a year ago.)
• Imports of gold and silver has increased.
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10. Causes of the Crisis
• Government Expenditure:
• As of Deceber 5, 2021, government revenue was 372 billion and
expenditure is Rs. 338 billion.
• Capital expenditure is Rs. 24 billion percent (6 percent).
• In the three months the cash balance of the central government was Rs.
238 billion.
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10. Causes of the Crisis
• Government Expenditure:
• As of Deceber 5, 2021, government revenue was 372 billion and
expenditure is Rs. 338 billion.
• Capital expenditure is Rs. 24 billion percent (6 percent).
• In the three months the cash balance of the central government was Rs.
238 billion.
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10. Causes of the Crisis
• Decline in Tourist Arrival and Labor Outmigration:
• Decline by 56 percent in the ten months of 2021 compared to the ten
months of 2020. (Just 1 lakh tourists)
• Labor outmigration declined by 77 percent during the three months of
2021/22 compared to the three months of the last year.
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11. Measures
• Short Term Measures
• Repo and SLF facilities by the NRB
• Check the import demand for unproductive goods and luxury items.
• Check the credit demand to unproductive sectors
• Medium Term Measures
• Medium term repo :
• Refinance facilities :
• Import management :
• External commercial borrowing :
• FDI and Foreign aid mobilizations
• Renittance formalizations through incentives and other policy measures
• Managing personal loans and loans to less productive activities
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