What is a Standing Deposit Facility (SDF)?

You might have come across Standing Deposit Facility (SDF) while going through the news. Now you must be wondering what it is and why RBI has introduced this additional tool for absorbing liquidity, right? Well, read through with us to know all about SDF.

Introduced by RBI w.e.f 08-Apr-22, SDF is a liquidity tool that gives banks an option to park access liquidity with them. However, unlike the reverse repo facility, you don’t need to provide collateral while depositing funds with RBI. 

As per RBI’s statement, the SDF rate as on 20-July-2022 is 4.65% i.e. 140 basis points below the reverse repo rate of 3.25% and all the participants are eligible for LAF (Liquidity Adjustment Facility) (explained below) will be eligible for SDF too.

Features of SDF

Following are the salient features of SDF.

1. A monetary policy instrument to absorb liquidity without collateral
2. It has become the floor of the LAF corridor (explained below), replacing the fixed rate reverse repo tool, which means the government won’t be accepting money for anything lower than the SDF rate 
3. The introduction of this tool has increased the reverse repo rate which lead to a rise in the cost of money 
4. Operated on an overnight basis (after market hours)
5. Enough flexibility to absorb liquidity for a longer tenor at a pre-determined rate
6. Deposits under the SDF will not be considered as balances eligible for the maintenance of Cash Reserve Ratio (CRR) (explained below) but will be eligible for the maintenance of Statutory Liquidity Ratio (SLR) (explained below)

How does SDF impact liquidity?

The introduction of SDF has surely raised one big question how does it impact liquidity. Before we understand how is it going to absorb the liquidity, let’s know what has led to increased liquidity. Below-mentioned is a few of the probable reasons that have led to an increase in liquidity.

1. Increase in advance tax receipts
2. Increase in public provident funds and small savings receipts
3. Temporary postponement of capital expenditure
4. Increase in foreign portfolio investment in equity and debt 
5. Net capital inflows in form of NRI deposits and trade credit

SDF gives the flexibility for surplus liquidity management as it removes the binding constraint on RBI to show government securities on the balance sheet. How? For every SDF, there will be two entries on the balance sheet – on the liability side (currency-in-circulation) and on the assets side under net claims on banks. This nullified impact on the RBI balance sheet gives more opportunity to RBI to absorb surplus liquidity. 

Conclusion

SDF is a monetary tool that allows banks to park their access liquidity with RBI without any collateral. RBI has introduced this tool to absorb excess liquidity in the market as it plays an important role in determining the policy rates. You must know that this change in policy rates impacts the rates on your deposits and loans. Thus, it is imperative for you to keep an eye on the SDF rate along with the repo rate and others. 

Notes:

1. 1. 1. Liquidity Adjustment Facility (LAF)A tool used in monetary policy that enables banks to either borrow money through repurchase agreements (repo) or lend money to RBI using the reverse repo tool.
      2. LAF Corridor LAF corridor indicates the difference between the repo rate and the reverse repo rate.
      3. Cash Reserve Ratio (CRR)The amount that banks have to statutorily maintain in liquid cash with RBI is known as CRR.
      4. Statutory Liquidity Ratio (SLR)Minimum percentage of deposits that a commercial bank is required to maintain in the form of liquid cash, gold, or government securities.

Disclaimer: This blog is exclusively for educational purposes.