Demonetisation of Rs 1,000 and Rs 500 Notes - What are banks doing with their surplus funds?

According to data put out by the RBI, banks have been lending excess funds to the RBI through the reverse repo option. Also data from the Clearing Corporation of India (CCIL) shows that PSU banks have bought (net) around Rs. 24,600 crore of government securities in the week ended Nov 18; they had bought around Rs. 20,000 crore of G-Secs in the entire month of October 2016

Banks can essentially borrow money for the short term under the liquidity adjustment facility (LAF). Currently banks can borrow up to 0.25 per cent of their deposits under the fixed-repo window and 0.75 per cent under the term-repo (variable) window. Alternatively, banks can also lend their excess funds to the RBI and earn interest on them through the reverse repo option. 

Post the announcement of the demonetisation scheme by the Centre on Nov 8,2016 there has been a sharp jump in the funds that banks have been lending to the RBI under the reverse repo option---a chunk under the variable window. 

The fixed reverse repo activity after clocking a daily average of about Rs. 4,000-6,000 crore in the past couple of months, suddenly spiked to Rs. 30,000-50,000 crore in the two to three days following the demonetisation move. The activity subsequently shifted to the variable reverse repo window, where essentially the price is determined through auctions. Over the past two weeks, banks have been lending funds to the tune of Rs. 20,000 crore to Rs. 80,000 crore under the variable reverse repo window across various tenures

Banks have earned a good interest on these funds too. While the fixed reverse repo rate is at 5.75 per cent, the cut-off rate at the reverse repo auctions have been around the 6.2 per cent mark.

PSU banks have also been deploying some of these funds to buy safe government securities. In the week ended Nov 18, PSU banks have been net buyers in government securities to the tune of about Rs. 24,600 crore. This is higher than the amount of bonds they bought (net) in recent months. PSU Banks have been buying aggressively in the last couple of months. In the September quarter they were net buyers to the tune of about Rs. 36,000 crore, far higher than the Rs. 18,000-odd crore of net purchase they made in the June quarter

Private sector banks on the other hand had turned net sellers in the September quarter. They net sold about Rs. 24,000 crore worth of bonds after a net purchase of Rs. 5,300 crore in the June quarter. In the week ending Nov 18, they made a net purchase of about Rs. 4,800 crore in government securities.