Home Banking News Standing Deposit Facility: A new tool of RBI to check inflation; Know what you need to know

Standing Deposit Facility: A new tool of RBI to check inflation; Know what you need to know

by Shatakshi Gupta

For the eleventh consecutive time, the Reserve Bank of India (RBI) in its latest monetary policy review has agreed to keep the main policy rate intact, while hinting at calibrated tightening in future. The country’s central bank also introduced a new tool to curb inflation under the name of Standing Deposit Facility. While it has retained its liberal stance, the apex bank said that its focus is now to control inflation rather than solely focusing on growth.

In view of the rise in crude oil and commodity prices and the impact of the Russian invasion of Ukraine, the RBI has reduced the growth forecast for the fiscal year 2022-23 from 7.8% to 7.2%. The Russo-Ukraine war could potentially hamper economic recovery through increased commodity prices and global spill-over channels.

In addition, the Reserve Bank has raised its inflation forecast for the financial year 2022-23 to 5.7% from 4.5% estimated earlier, although this is also below the upper band of the Reserve Bank’s target of 6%

The Reserve Bank has introduced a new measure, the Standing Deposit Facility as an additional tool to absorb liquidity, to draw out surplus liquidity of Rs 8.5 lakh crore from the inflation-promoting financial system. In this context, let’s understand about this new tool and its significance.

What is SDF?

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The Reserve Bank has introduced an additional instrument, the Standing Deposit Facility (SDF) to absorb liquidity at an interest rate of 3.75%. It is an additional tool to absorb liquidity through banks without any collateral.

The amended Section 17 of the Reserve Bank of India Act in the year 2018 empowered the Reserve Bank to introduce SDF. The SDF strengthens the governance structure of monetary policy by removing the binding collateral constraint on the Reserve Bank. Its role is similar to that of Reverse repo except in this no securities are involved during the parking of money with RBI.

In addition to its role in liquidity management, SDF is also a financial stability tool. The SDF rate will be 25 basis points lower than the policy rate, i.e repo rate and will be applicable on overnight deposits at this level. However, it will retain the flexibility to absorb long-term liquidity as and when required with reasonable pricing.

Why it was needed?

The ‘extraordinary’ liquidity measures in the wake of the pandemic have been able to infuse liquidity of the order of ₹8.5 lakh crore into the financial system with the liquidity injected through various other functions of the Reserve Bank. The main objective of SDF is to reduce excess liquidity in the system and to control inflation. RBI will engage in gradual and calibrated withdrawal of this liquidity over a multi-year time frame in a non-disruptive manner beginning this year.

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