The RBI has deployed a number of liquidity support measures for banks to ensure that there will be enough liquidity in the banking system. Most popular of these measures is the ‘work horse’ liquidity support arrangement called repo (repo comes under the RBI’s umbrella liquidity management mechanism called Liquidity Adjustment Facility).
The Liquidity Adjustment Facility has repo and term repo as the major liquidity injecting instruments.
Under repo, loans are provided for just one day and banks should pledge their security holding that is held above the SLR (Statutory Liquidity Ratio) level to get one day loans. If there is no security holding over the SLR, banks can’t get loans under repo facility. Suppose the if the SLR is 19% and a particular bank is having the SLR security holdings exactly equal to 19%, it can’t get loans under repo.
The working of repo thus necessitates that there should be eligible securities with the bank to avail money from the RBI by pledging them. Eligible securities are first class securities (including government bonds, T Bills, State Development Loans etc) held by a bank over the SLR requirement. This means that the securities held by a bank above 19.0% (SLR as on 15th of May 2019) of its liabilities (deposits) can be pledged by the bank with the RBI to avail funds under repo.
Now suppose that the bank has pledged all of its securities above 19% to the RBI for getting funds (means no eligible securities). Then, what the bank can do to get immediate money from the RBI?
Here, the RBI has introduced another facility called Marginal Standing Facility.
According to the RBI circular on MSF, “In the event, the banks’ SLR holdings fall below the statutory requirement up to one per cent of their NDTL, banks will not have the obligation to seek a specific waiver for default in SLR compliance arising out of use of this facility”.
The implication is that if a bank has at least 18% of deposits in the form of SLR eligible securities, (when the SLR is 19%), the bank can get loans under MSF or there will not be any disciplinary action.
What is Marginal Standing Facility?
Marginal Standing Facility is an overnight liquidity support provided by RBI to commercial banks with a higher interest rate over the repo rate. MSF can be used by a bank after it exhausts its eligible security holdings for borrowing under other options like the LAF repo. Under MSF, banks can borrow funds from the RBI by pledging government securities within the limits of the SLR.
Significance (out of the implication of clauses) of MSF is that it can be availed even if the latter doesn’t have the required eligible securities above the SLR limit.
Launch of Marginal Standing Facility (MSF)
The MSF was introduced by the RBI in its monetary policy for 2011-12 after successfully test firing it from December 2010 onwards.
Usually, when banks need short term loans from the RBI, they pledge their security holdings that is above the SLR holdings with the RBI to get one day loans under repo.
Under MSF, a bank can borrow one-day loans form the RBI, even if it doesn’t have any eligible securities excess of its SLR requirement (maintains only the SLR).
Banks can borrow from the RBI up to 1 % of their Net Demand and Time Liabilities or liabilities (or deposits) under MSF (increased to 2% later).
The working of MSF is thus is indirectly related with SLR. For example, imagine that a bank has securities holding of just 19.0 % (of NDTL). This is equal to its mandatory SLR holding. The bank can’t borrow using the repo facility. But as per the MSF, the bank can borrow 1 % of its liabilities from the RBI. Sometimes the RBI increases the limit of borrowings to 2% of NDTL. As in the case of repo, the bank has to mortgage the securities with the RBI.
MSF rate and the Repo rate
But the main condition is that for such borrowings the bank has to give higher interest rate to the RBI. The interest rate for MSF borrowing can be decided by the RBI from time to time, and it was originally set at one percent higher than the repo rate. But later, with the gradual reduction of the repo rate, the MSF rate has been brought closer to the repo rate. As on May 2019, the difference between repo rate and MSF is 0.25%. Repo rate is 6.0% whereas the MSF rate is 6.25%. Both the MSF rate and Bank rate are equal.
Difference between the Repo rate and the MSF rate can be changed in accordance with the policy perspective of the RBI. Following are the main features of the MSF.
Features of MSF
1. Eligibility: All Scheduled Commercial Banks having Current Account and SGL Account with Reserve Bank, will be eligible to participate in the MSF Scheme.
2. Tenor and Amount: Under the facility, the eligible entities can avail overnight, up to one per cent of their respective Net Demand and Time Liabilities (NDTL) outstanding at the end of the second preceding fortnight.
“In the event, the banks’ SLR holdings fall below the statutory requirement up to one per cent of their NDTL, banks will not have the obligation to seek a specific waiver for default in SLR compliance arising out of use of this facility in terms of notification issued under sub section (2A) of Section 24 of the Banking Regulation Act, 1949.“
3. Timing: The Facility will be available on all working days in Mumbai, excluding Saturdays.
4. Rate of Interest: The rate of interest on amount availed under this facility will be 100 basis points (originally set) above the LAF repo rate, or as decided by the Reserve Bank from time to time (reduced by the RBI).
5. Discretion to Reserve Bank: The Reserve Bank will reserve the right to accept or reject partially or fully, the request for funds under this facility.
6. Mechanics of operations: The requests will be submitted electronically in the Negotiated Dealing System (NDS). Eligible members facing genuine system problem on any specific day, may submit physical requests in sealed cover in the box provided in the Mumbai Office,
7. Minimum request size: Requests will be received for a minimum amount of Rs. one crore and in multiples of Rs. one crore thereafter.
8. Eligible Securities: MSF will be undertaken in all SLR-eligible transferable Government of India (GoI) dated Securities/Treasury Bills and State Development Loans (SDL).
Difference between MSF and the LAF Repo
Under LAF Repo, banks can borrow from RBI at the Repo rate by pledging government securities over and above the statutory liquidity requirements. Daily limit for repo borrowing is 0.25% of the NDTL. In the case MSF, banks can borrow funds up to one percentage of their NDTL, at a rate of one percentage higher than the repo rate. The rate of interest and amount of borrowing can change depending upon the monetary policy decisions by the RBI.