Operation Twist

Operation Twist is an unconventional monetary policy tool used by central banks to influence the structure of interest rates across different maturities without significantly altering overall liquidity in the financial system. In India, Operation Twist has emerged as an important policy instrument for managing long-term interest rates, supporting economic growth, and ensuring efficient transmission of monetary policy, especially during periods of financial stress or economic slowdown.
Unlike conventional liquidity-injecting or liquidity-absorbing operations, Operation Twist focuses on reshaping the yield curve. Its relevance in the Indian banking and financial system lies in its ability to lower long-term borrowing costs while maintaining stability in short-term money markets.

Concept and meaning of Operation Twist

Operation Twist refers to the simultaneous purchase of long-term government securities and sale of short-term government securities by the central bank. The objective is to reduce long-term yields while preventing excess liquidity from entering the system. By increasing demand for long-term bonds, their prices rise and yields fall, whereas selling short-term securities exerts upward pressure on short-term yields.
The term “twist” denotes the intended twisting or flattening of the yield curve, where long-term interest rates decline relative to short-term rates. This tool is particularly useful when policy rates are already low, but long-term borrowing costs remain elevated.

Institutional framework in India

In India, Operation Twist has been implemented by the Reserve Bank of India as part of its broader monetary policy and liquidity management framework. The RBI conducts these operations in the secondary market through auctions involving government securities of different maturities.
Operation Twist in India does not involve direct monetisation of government debt, as transactions occur in the secondary market. This ensures compliance with fiscal discipline while allowing the central bank to influence interest rates across maturities.

Objectives of Operation Twist in the Indian context

The primary objective of Operation Twist is to lower long-term interest rates without creating surplus liquidity. Lower long-term yields are crucial for stimulating investment, housing demand, and infrastructure financing, all of which rely heavily on long-term borrowing.
Operation Twist is also used to improve monetary policy transmission. Even when the policy repo rate is reduced, lending rates may not decline sufficiently if long-term yields remain high. By compressing long-term yields, Operation Twist strengthens the impact of accommodative monetary policy on the real economy.

Impact on banking and financial markets

For banks, Operation Twist influences both asset and liability management. A decline in long-term yields increases the market value of banks’ government bond holdings, potentially improving capital positions. At the same time, lower long-term rates enable banks to price long-term loans, such as housing and infrastructure loans, more competitively.
In financial markets, Operation Twist helps stabilise the government securities market by managing yield volatility. It also influences corporate bond yields, as government bond yields serve as benchmarks for pricing private debt. As a result, borrowing costs for corporates and financial institutions may decline.

Significance for the Indian economy

Operation Twist plays a supportive role in promoting economic growth in India, particularly during periods of weak investment demand. By reducing long-term interest rates, it encourages capital formation, supports real estate and infrastructure sectors, and improves overall financial conditions.
From a macroeconomic perspective, the tool helps balance growth objectives with inflation management. Since it does not inject net liquidity, it reduces the risk of fuelling inflation while still easing financial conditions for long-term borrowers.