Who are they kidding?

After receiving a bloody nose on 18 July the Reserve Bank capitulated to bond traders on 24 July and agreed to pay 11.0031% on Rs 70 billion worth of Treasury Bills maturing in 91 days for which it had paid 7.4769% on 10 July, a massive jump of 353 basis points. Livemint, 25 July. It also sold Treasury Bills maturing in 364 days at 10.4649% interest as compared to 7.5476% on 10 July. Yields on benchmark 10 year bonds have risen to a 14 month high of 8.5%, which is 95 basis points higher than rates on 15 July. It has come down to 8.16% on 26 July. On 18 July it withdrew a sale of Rs 120 billion worth of Treasury Bills from auction because traders wanted high yields and could manage to sell only Rs 25.32 billion of bonds out of Rs 120 billion offered for auction through Open Market Operations. There were no takers for its regular auction of Rs 150 billion of bonds so the underwriters bailed the RBI out by buying Rs 35 billion worth, but only after the bank raised commissions several times. The government wants to borrow Rs 5.79 trillion for this financial year of which it wants to borrow Rs 3.49 trillion before 30 September. The government has borrowed Rs 2.1 trillion thus far and it will certainly not want to pay interest at these rates. The effect has been disastrous for banks. When yields go up bond prices come down which means billions of rupees of losses for banks which are holding large amounts of bonds. If the government pays such high rates of interest it becomes the standard for the rest of the market. Commercial Paper rates jumped to 10.45% but then came down to 10%. Rates on Certificates of Deposit have risen by 200 basis points. " If government has to pay 11%, what will corporates pay for loans and bonds - 16-17%? It's a very difficult situation. Nobody had thought of this kind of rates," said Devendra Dash, a senior bond dealer with Development Credit Bank. The Oriental Bank of Commerce, a public sector bank, lowered lending rates by 25 basis points just recently, because of bullying by the Finance Minister, but has raised interest it pays on 1 year term deposits by 50-75 basis points. This is stupid, fingers-crossed economics. All this frantic activity clearly shows that the RBI is taking its orders from a bunch of foot-licking creepy crawlies who, in turn, are taking orders from a partially educated foreigner. The idea is to create shock and awe by raising interest rates to very high levels for a short time to prevent the rupee from falling and then bring them down well before elections in May 2014. However, bond and currency dealers are no suckers to fall for such infantile tricks. They will be looking for blood the moment the RBI tries to reverse policies. Silly bluff.