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Context:
The RBI announced a ₹1 trillion Open Market Operation (OMO) purchase along with a $5 billion dollar–rupee swap to inject durable rupee liquidity as the rupee slipped past 90 per dollar amid foreign outflows. The move aims to stabilise liquidity, interest rates, and currency markets.
What is an OMO Purchase?
An Open Market Operation (OMO) purchase is an action where the RBI buys government securities from banks and financial institutions to inject durable liquidity into the financial system.
Key outcomes:
- Increases bank reserves
- Lowers short-term interest rates
- Smoothens monetary policy transmission across the economy
Purpose of OMO Purchases
- Inject long-term, durable liquidity into the banking system
- Smoothen monetary transmission after policy rate changes
- Stabilise money-market rates such as the Weighted Average Call Rate (WACR)
- Counter liquidity shortages caused by capital outflows or currency volatility
Types of Open Market Operations
Expansionary OMO (Liquidity Injection)
- RBI buys government securities
- Bank reserves rise
- Interest rates fall
- Lending and investment activity increases
Contractionary OMO (Liquidity Absorption)
- RBI sells government securities
- Money supply reduces
- Market interest rates rise
- Helps control inflation
Special OMOs / Operation Twist
- RBI buys long-term bonds and sells short-term bonds simultaneously
- Adjusts the yield curve without altering overall liquidity
- Used to ease long-term borrowing costs
How OMO Purchases Work
Step 1: Assess Liquidity
RBI monitors:
- Currency pressures
- Capital flows
- Call money rates
- Banking system liquidity
Step 2: Announce OMO Auction
RBI specifies:
- Amount (e.g., ₹1 trillion)
- Type and maturity of government securities
Step 3: Banks Sell Bonds
Banks sell government securities to the RBI through the auction mechanism.
Step 4: Settlement
- RBI pays banks
- Bank reserves increase
- System liquidity expands
Step 5: Market Effects
- Overnight rates fall
- Bond yields soften
- Rupee money markets stabilise
- Monetary transmission improves
Significance of the OMO Purchase
- Strengthens Rupee Liquidity During Currency Pressure
- Foreign outflows reduce rupee liquidity; OMO purchases replenish it to prevent market stress.
- Improves Monetary Transmission
- Ensures lending rates ease in line with repo rate cuts.
- Stabilises Bond Markets
- Prevents abrupt spikes in bond yields, supporting government borrowing.
- Boosts Banking Sector Liquidity
- Provides banks with durable liquidity, enabling greater credit flow to businesses and households.
