Defining Surplus Liquidity

Surplus liquidity, in simple terms, refers to the extra cash or funds that are available in the banking system, beyond what is immediately required by banks and the economy.

This surplus is determined by the amount of money that the Reserve Bank of India (RBI) absorbs from the banking system. The rise in surplus liquidity can be attributed to several factors including deposit inflows, government expenditures, redemption of government securities, and cash leakage in the rural areas.

The presence of surplus liquidity provides additional funds to the banking system and significantly influences interest rates, money supply, and overall economic conditions.

Factors Contributing to Surplus Liquidity

There are several factors that contribute to the increase in surplus liquidity in the banking system.

The withdrawal of the Rs 2,000 notes from circulation has significantly contributed to the rise in surplus liquidity. Similarly, the redemption of government bonds has led to an increase in the surplus liquidity in the banking system.

Another factor that contributes to surplus liquidity is the increase in government spending towards the end of the month.

The Impact and Consequences of Surplus Liquidity

Surplus liquidity has several implications on the economy. For instance, it can lead to a decrease in interest rates as banks have excess funds to lend.

Furthermore, surplus liquidity can lead to an expansion of the money supply in the economy, which may affect inflation and overall economic growth. It also impacts the exchange rate as the sale of dollars by the RBI to defend the rupee can reduce rupee liquidity in the banking system.

In response to these changes, the RBI monitors the surplus liquidity and takes appropriate measures to maintain stability in the banking system. These measures may include conducting reverse repo auctions to absorb excess liquidity or injecting liquidity through repo auctions when needed.

Predicted Decrease in Surplus Liquidity

Several factors are expected to lead to a decrease in surplus liquidity. The upcoming payments of advance tax and GST are expected to reduce surplus liquidity as businesses and individuals make their tax payments.

During the crop sowing season, there is typically higher currency demand in rural areas, which can lead to a decrease in surplus liquidity. Economists and analysts predict that the surplus liquidity in the banking system will decline to around Rs 1.3-1.5 lakh crore by June ’23 end.

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