Banks Seeking Most Cash Since July Drive Up Borrowing Costs: India Credit

Banks in India are increasing borrowing from the central bank to the most since July as a shortage of cash drives short-term interest rates higher.

Financial institutions borrowed a daily average of 294 billion rupees ($6.4 billion) last week, after depositing 69 billion a day in the previous week, Reserve Bank of India data show. Overnight lending rates climbed to a six-month high of 6.10 percent on Sept. 17, from 5.25 percent a week earlier, as companies pay taxes this month and people withdraw cash ahead of religious holidays. That was the biggest jump since the period ended June 5.

Banks have borrowed more than they deposited with the monetary authority for four straight months, the longest stretch since the collapse of Lehman Brothers Holdings Inc., as Governor Duvvuri Subbarao reins in money-supply growth to help cool inflation in the world’s second-most populous nation. Subbarao increased interest rates for the fifth time this year last week, sending yields on 10-year Indian bonds toward a two-year high, above those of China and Russia and below those of Brazil.

“Until inflation begins to dissipate, the central bank may continue to keep cash conditions tight,” Abheek Barua, chief economist in New Delhi at HDFC Bank Ltd., India’s third largest, said in a Sept. 16 interview. “The RBI has a plethora of policy options to ease liquidity including easing reserve requirements and raising foreign investment limit on debt, but they are deliberately keeping it tight.”

Subbarao is concerned that higher rates have failed to stop record lending. He is trying to slow inflation, which surged to 11 percent in April before slowing to 8.5 percent in August, as measured by wholesale prices. The Reserve Bank is still worried by the pace of price increases, Deputy Governor Subir Gokarn said in an e-mailed statement in New Delhi on Sept. 17.

Inflation, Lending

Loans to companies including Essar Steel Ltd. and Videocon Industries Ltd. climbed 36 percent to 2.1 trillion rupees this year, the most since Bloomberg started compiling the data in 2002. State Bank of India and ICICI Bank Ltd., the nation’s two biggest, have raised their lending rates by 0.5 percentage point this year, less than the 1.25 percentage-point increase in the central bank’s benchmark repurchase rate.

India’s banks may push up their rates by 50 to 100 basis points by December, helping bring down inflation to about 5.5 percent by the end of 2010, said HDFC’s Barua.

Last week’s borrowing by banks was the most since they sought an average 642 billion rupees a day in the week ended July 23, central bank data show. Indian companies withdrew funds before the Sept. 15 deadline to pay corporate tax. Consumers may also tap savings before the Hindu festivals of Dussehra in October and Diwali in November.

The last time banks were net borrowers for four consecutive months was between May and November in 2008, as the global financial crisis deepened.

Yields Rise

The cash reserve ratio, the proportion of deposits lenders should keep with the central bank, was last increased by 0.25 percentage point to 6 percent on April 26. International holdings of India’s rupee debt climbed 120 percent this year to $16.6 billion as of Sept. 16, approaching the $20 billion limit, according to data from the Securities & Exchange Board of India.

The yield on India’s benchmark 10-year bond rose 7 basis points, or 0.07 percentage point, last week to 7.98 percent. While the rate has climbed 39 basis points in 2010, it has slid 14 basis points from a high of 8.12 percent on April 27. Similar- maturity bonds yield 3.23 percent in China, 7.56 percent in Russia and 11.83 percent in Brazil.

The difference in yields between the debt and similar- maturity U.S. Treasuries widened to 5.25 percentage points on Sept. 17 from 5.10 percentage point a week earlier. This compares with an average 3.17 points in the past decade. The measure peaked at 5.56 points on Aug. 26.

Worst Performers

Returns from Indian government bonds fell 0.25 percent this month, losing the most after Singapore and Hong Kong among 10 local-currency debt markets outside Japan, according to indexes compiled by London-based HSBC Holdings Plc, Europe’s largest bank. The notes returned 3 percent this year, the worst performance in the region excluding Japan.

The cost of fixing rates on money for three years in the market for so-called interest-rate swaps, climbed 25 basis points last week to 6.77 percent, data compiled by Bloomberg show. It had dropped 42 basis points in the previous six weeks.

In raising rates, the Indian central bank “suggested that the path of policy normalization was over, which we interpret as signaling a long pause,” Piero Ghezzi, the global head of foreign-exchange strategy at Barclays Capital in London, wrote in a Sept. 17 report.

The rupee appreciated 1.4 percent last week to 45.845 per dollar, the most since the five-day period ended June 18, as the benchmark Sensitive Index of shares surged 4.2 percent.

Subbarao may seek more curbs on credit in November, including tighter rules for loans to property developers, said Shubhada Rao, Mumbai-based chief economist at Yes Bank Ltd., a lender part owned by Rabobank Nederland NV and HSBC.

“The RBI is making sure that liquidity stays tight,” Ramit Bhasin, the Mumbai-based head of markets in India at Royal Bank of Scotland NV, said in a Sept. 17 interview.