The Reserve Bank of India (RBI) has recently announced plans to implement a US-style ‘Operation Twist,’ a measure designed to decrease interest rates. The initiative will involve simultaneous purchase and sale of government securities under Open Market Operations (OMO) for a sum of ₹10,000 crore each.
Understanding ‘Operation Twist’
‘Operation Twist’ refers to a situation where the central bank sells its short-term securities to purchase long-term government debt papers. This action results in an easing of interest rates on these long-term papers.
The procedure was first introduced back in 1961 as a strategy to reinforce the U.S. dollar and stimulate cash flow into the economy. By June 2012, the operation proved so effective that it drove the yield on the 10-year U.S. Treasury down to the lowest point in 200 years.
Under this plan, the RBI will use the proceeds from its sales of shorter duration bonds (maturing in 2020) to purchase longer-term maturities (government bonds maturing in 2029). These transactions will be conducted electronically on RBI’s Core Banking Solution (E-Kuber) and are open to eligible participants.
Open Market Operations Explained
Open Market Operations (OMO) are one of the quantitative tools used by a country’s central bank to regulate or control the total volume of money within the economy. The procedure involves the buying or selling of government securities (g-secs) to manage money supply conditions.
In the case of liquidity removal, the central bank sells g-secs. Conversely, when infusing liquidity into the system, it buys back g-secs. These operations are usually executed on a daily basis with the aim of balancing inflation while ensuring banks can continue to lend.
Commercial banks serve as the medium through which the RBI carries out OMO as the central bank does not directly engage with the public. To adjust the quantum and price of money in the system, the RBI uses OMO along with other monetary policy tools such as repo rate, cash reserve ratio and statutory liquidity ratio.
| Operation name | Year first appeared |
|---|---|
| Operation Twist | 1961 |
| Open Market Operations | Not specified |
Benefits of ‘Operation Twist’
The simultaneous buying and selling involved in ‘Operation Twist’ will decrease interest on long term loans, potentially leading to an increase in economic spending. OMOs, which are primarily used to maintain adequate liquidity in the system, show that the RBI is keen for banks to transmit lower rates to borrowers.
The market views the implementation of ‘Operation Twist’ by the RBI as an encouraging step. This measure could become a key driver for long-term economic activity and stimulate the addition of new investment stock.