Banks parked just ₹3.84 trillion during the Reserve Bank of India’s (RBI’s) variable rate reverse repo (VRRR) auctions on Monday, less than half the ₹10 trillion notified amount, despite surplus liquidity in the banking system rising above ₹5 trillion to its highest level since the third week of April. They had parked over ₹5 trillion each on Friday and Saturday at the RBI’s liquidity adjustment facility window.
Demand at the VRRR auction remained subdued as liquidity in the banking system is unevenly distributed, with surplus funds concentrated among a few banks, dealers said.
The central bank has been conducting VRRR auctions to absorb the surplus liquidity that has built up in the banking system, with the recent surge largely driven by strong inflows through the foreign currency non-resident (bank), or FCNR(B), swap scheme. Banks had raised $65.4 billion through FCNR(B) deposits alone by August 21, with the dollars subsequently swapped with the RBI, adding to rupee liquidity in the banking system. This swap window closed on Monday.
While some large banks saw healthy mobilisation, the same was not true for most mid-sized and smaller banks, leading to skewed liquidity across banks. This was also evident in overnight rates, with the weighted average call rate closing at 5.18 per cent, close to the policy repo rate of 5.25 per cent.
Mainly due to FCNR(B) flows, system liquidity has risen above ₹5 trillion, prompting the RBI to use VRRR auctions to keep overnight rates aligned with the weighted average call rate, its operating target, and prevent excess funds from putting downward pressure on short-term rates. The central bank plans to conduct another ₹1 trillion VRRR auction with a seven-day tenor on Tuesday.
Banks parked ₹1.34 trillion at the 15-day VRRR auction on Monday against the ₹6 trillion notified amount, while they parked ₹2.50 trillion at the overnight VRRR auction against the ₹4 trillion notified. Both auctions were conducted at a cutoff and weighted average rate of 5.24 per cent.
Market participants said banks were reluctant to park funds for longer tenors such as 15 days and preferred overnight instruments, which gave them greater flexibility to assess their liquidity position day by day.
“Bankers are not comfortable parking funds for that long, say 15 days. They just wanted to park it overnight because then they can take a decision on a day-to-day basis, depending on whether they have to invest or whether there is a lot of credit outflow taking place right now,” said a money market dealer at a state-owned bank.
Market participants said the RBI could undertake additional measures to absorb excess liquidity during the week, such as an incremental cash reserve ratio or open market operations involving government bonds, if core liquidity rises. “Some of the funds could instead be retained for investment purposes and deployed in government securities, particularly five-year securities. However, the current market conditions remain unfavourable amid hawkish comments from the US Federal Reserve and elevated global interest rates,” said a dealer at a private bank.
Government bond yields hardened on Monday, tracking the rise in crude oil prices, said dealers. The market was also taking cues from geopolitical developments involving the US and Iran, along with hawkish comments from Fed Chair Kevin Warsh at the Jackson Hole symposium, where inflation management was emphasised as the American central bank’s primary objective.
The yield on the benchmark 10-year government bond settled at 6.95 per cent, its highest since June 8, 2026, compared with the previous close of 6.91 per cent.
“Crude oil has moved above $90 a barrel; the hawkish comments from the Fed are also pushing yields higher. With the RBI also indicating a rate hike, all these factors are combining to push yields higher,” said a gilts dealer at a state-owned bank.
Market participants said yields are unlikely to see an immediate correction and would remain elevated unless the RBI intervenes in the fixed-income market.
Demand for government securities could improve once yields reach more attractive levels, possibly around 7.2-7.4 per cent in the 10-year segment, said dealers. At such levels, banks could start shifting funds from their books to the government securities market, said market participants.
On the other hand, the rupee strengthened to close at 95.17 per dollar from 95.39 per dollar, despite an initial decline following a surge in the dollar index. The recovery was supported by likely intervention from the RBI through dollar sales and increased dollar flows linked to MSCI rebalancing and FCNR(B) schemes.