In all the panic that always follows when the economists’ models break down and trade is lumped that that of soothsayers, a curious creature made an appearance.  Banks offering short term – year or less, FDs for 11-12% in an environment where the RBI was reducing the benchmark rate signaled an unusual concern over short term liquidity.  Where banks hate to do anything without referring to the morning fax from the central bank, clearly this had to have had its blessing?!  But why offer such high rates when rates are indicated to trend lower?

 Was the central bank that concerned about short term liquidity?  Did it foresee large scale borrower defaulting/restructuring to therefore severely drying up liquidity in the banking system.  This, at a time, when it was reducing the repo-rate or the cost of borrowing at the discount window?  That means if the actual cost of capital in the short run is indeed 10%, the rate being paid to the bank depositors, but the RBI is offering credit at 5%, the difference is the economic stimulus.  An artificial bail-out construct that is giving the yield curve its curious structure. 

But why try to infuse credit when the world is de-leveraging?  Data is beginning to surface about interest rate driven sectors, real estate specifically, had over extended itself where even minor demand destruction will cause them to default en-mass.  That means, RBI was acting after the event.  The extent of demand destruction on witness last quarter is perhaps numbing us into not questioning its late and expensive maneuver.