In the coming week the top priority of the RBI will be to ensure adequate liquidity. Over the last one week we have seen some of the biggest falls in the Sensex and the rupee. Even as the RBI struggles to put liquidity into the system, it would not be surprising if in the next few days the banking system continues to face further liquidity shortages. FIIs and mutual funds face redemption pressures. Indian firms which have operations abroad will try to borrow here.

In the next few days the RBI should further reduce the cash reserve ratio. The cuts in CRR last week will bring some relief to the system but it will not be enough to take account of emerging tightness. The RBI should be prepared for further, sharp cuts in the CRR. Homeopathic cuts may not be enough. Similarly, the RBI should consider cutting the statutory liquidity ratio substantially. Oil bonds should be made SLR eligible. This is the time to put the issue of liquidity ahead of all others. With these steps, along with a pro-active RBI that should be ready to step in as a lender of first resort, the extreme tightness in liquidity can possibly be tackled.