The sudden announcement by the Reserve Bank of India of a variable rate, term reverse repo auction to restore normal liquidity management operations has taken markets by surprise even as it has led to the shorter-tenor yields rising since Monday.

Last Friday, the central bank had announced the normality of operations: as part of the process, it will hold a variable reverse repo auction on January 15 for Rs 2 lakh crore.

Analysts and market participants were taken by surprise on the RBI’s move, especially as the apex bank did not express any concern about liquidity in the last monetary policy meet on December 4.

On Monday, shorter term bond yields — they are inversely related to prices — rose 10-15 basis points and their gains continued on Tuesday. There was also some impact on longer tenor security with yields on the benchmark 10-year bond rising around three basis points to 5.91 per cent.

According to Anurag Mittal, senior fund manager, fixed income, IDFC AMC, in recent months, as system liquidity — banking system liquidity plus government cash balance — increased to over

Rs 8 lakh because of RBI’s sterilisation of foreign exchange inflows, it led to considerable collapse in overnight rates.

This caused concern amongst market participants and economic commentators including MPC members regarding policy efficacy and many market participants expected RBI to act in its December policy to correct this polarity. However, the central bank said that the fall in overnight rates was primarily due to “asymmetrical distribution” of liquidity.

However, Madhavi Arora of Emkay feels the RBI action of gradually reverting to pre-Covid tools of liquidity management is unlikely to immediately alter the quantum of excess system liquidity.

“The markets have been taken by surprise by the RBI’s statement on restoring normalcy on liquidity management.. Even as the shorter-tenor yields have shot up by around 10-15 basis points, we believe some of the knee-jerk reaction will reverse in the coming days,” Arora said.

This is because the current policy aim is to only smoothen the distribution of liquidity (and not change its quantum) across the skewed yield curve. The liquidity stance is unlikely to diverge from the accommodative policy stance in the near term, especially as current liquidity deluge is not necessarily feeding into present inflation dynamics’’, Arora added.