Marginal Standing Facility
Marginal Standing Facility (MSF) is a new scheme announced by the Reserve Bank of India (RBI) in its Monetary Policy (2011-12) and refers to the penal rate at which banks can borrow money from the central bank over and above what is available to them through the LAF window.
MSF, being a penal rate, is always fixed above the repo rate. The MSF would be the last resort for banks once they exhaust all borrowing options including the liquidity adjustment facility by pledging through government securities, which has lower rate of interest in comparison with the MSF. The MSF would be a penal rate for banks and the banks can borrow funds by pledging government securities within the limits of the statutory liquidity ratio. The scheme has been introduced by RBI with the main aim of reducing volatility in the overnight lending rates in the inter-bank market and to enable smooth monetary transmission in the financial system.
MSF represents the upper band of the interest corridor and reverse repo as the lower band and the repo rate in the middle. To balance the liquidity, RBI intend to use the sole independent "policy rate" which is the repo rate and the MSF rate automatically gets adjusted to a fixed per cent above the repo rate (MSF was originally intended to be 1% above the repo rate).
Under Section 49 of the Reserve Bank of India Act, 1934, the Bank Rate has been defined as “the standard rate at which the Reserve Bank is prepared to buy or re-discount bills of exchange or other commercial paper eligible for purchase under the Act. On introduction of LAF, discounting/rediscounting of bills of exchange by the Reserve Bank has been discontinued. As a result, the Bank Rate became dormant as an instrument of monetary management. It is now aligned to MSF rate and used for calculating penalty on default in the cash reserve ratio (CRR) and the statutory liquidity ratio (SLR).
MSF came into effect from 9th May 2011. MSF scheme is provided by RBI by which the banks can borrow overnight upto 1 per cent of their net demand and time liabilities (NDTL) i.e. 1 per cent of the aggregate deposits and other liabilities of the banks. However, with effect from 17th April 2012 RBI raised the borrowing limit under the MSF from 1 per cent to 2 per cent of their NDTL outstanding at the end of the second preceding fortnight. The rate of interest for the amount accessed through this facility got fixed at 100 basis points (i.e. 1 per cent) above the repo rate for all scheduled commercial banks. However, the rate of interest on the amount accessed from this facility got fixed at 300 basis points (i.e. 3%) above the repo rate with effect from 15 July 2013. In addition, access to the LAF window was reduced by RBI to just 0.5% of their NDTL which in turn forced banks to access the MSF window for their requirements, as LAF window was not sufficient enough. In the credit policy of September 2013, i.e., after one month, this was reversed, whereby MSF rate was cut by 75 bps from 10.25% to 9.5% and as on September 2013 MSF stood at 200 bps (2%) above the repo rate, which is considered as the "policy rate" in the economy. However, the amount that can be accessed using LAF window remained at 0.5% of the NDTL. Later MSF was brought back to the originally intended level of 1% above the repo rate and was being automatically adjusted as and when repo rates are changed.
In April 2016, RBI changed its monetary policy stance to favour a narrow the policy rate corridor from +/-100 basis points (bps) to +/- 50 bps by reducing the MSF rate by 75 basis points and increasing the reverse repo rate by 25 basis points, with a view to ensuring finer alignment of the weighted average call rate (WACR) with the repo rate. Thus MSF is now placed at 0.5% above the Repo Rate. The new repo rate is 6.5%, while MSF is at 7% and Reverse Repo rate is at 6%.The Bank Rate which is aligned to the MSF rate also stands adjusted to 7%.
Banks can borrow through MSF on all working days except Saturdays, between 3.30 and 4 30 p.m. in Mumbai where RBI has its headquarters.In order to facilitate better liquidity management by the market participants and to align the liquidity operations with the working of payment systems, Reserve Bank of India has decided to conduct Reverse Repo and MSF operations on all Mumbai holidays when the RTGS is open. This change will come into effect from February 19, 2016. The timings of the Reverse Repo / MSF operations will be between 5:30 pm and 7: 30 pm on such holidays.
The minimum amount which can be accessed through MSF is Rs.1 crore and in multiples of Rs.1 crore. ( Rs 1 crore = Rs 10 million). The application for the facility can be submitted electronically also by the eligible scheduled commercial banks. The banks used the facility for the first time in June 2011 and borrowed Rs.1 billion via the MSF.
The ECB (European Central Bank) also offers standing facilities called marginal lending facilities similar to the MSF introduced in India. The Federal Reserve has discount window systems similar to Standing facilities. Like the MSF, the secondary credit facility made available by the Federal Reserve to the depository institutions in USA is typically overnight credit on a very short term basis at rates above the primary credit rate.
The effectiveness of standing facilities in reducing volatility have been examined by many scholars and certain studies have pointed out that in the Federal Reserve System in the United States, the design of the facility decreases a bank’s incentive to participate actively in interbank market due to the perceived stigma from using such facility. This in turn reduces the effectiveness of standing facility in reducing interest rate volatility.
Furfine,Craig (2003) “Standing facilities and interbank borrowing: Evidence from the Fed’s new discount window”,Working Paper, Federal Reserve Bank of Chicago.