Cash conditions in the Indian banking system could tighten further in the coming weeks and require more active management if the central bank intends to keep the overnight cash rates close to the policy rate, several market participants said.

The weighted average call rate -- used by banks to borrow and lend funds -- has remained above the repo rate of 6.50% for the last few weeks, signaling a liquidity deficit, despite the Reserve Bank of India's short-term cash infusions.

"As we move closer towards the (financial) year-end, the liquidity problem may become more acute and the central bank will have to be nimble to provide more funds in the shorter-duration repos if spending does not pick up," said VRC Reddy, treasury head at Karur Vysya Bank.

One step, traders suggest, is for the RBI to stop conducting repo auctions an hour or so after the market opens and to avoid ad-hoc auction announcements through the day.

"Announcing repo infusion once the session is already in progress is of little help as most banks and primary dealers that are short (on funds) aim to complete their borrowing requirement within the first hour of the day," a treasury head with a state-run bank said.

Not only that, traders believe the RBI needs to provide more cash. Banks currently hold 3 trillion rupees ($36.19 billion) under various central bank repos.

"Apart from announcing in advance, ... as nearly 80% of trades are done in first 90 minutes, they also need to increase the quantum of repos as government spending has declined," said the treasury head of another state-run bank.

However, the very fact that the current shortage is caused by the government's spending slowdown makes it unlikely the RBI will take any major steps to address the situation, traders say.

"Since there is less predictability on this (government spending) front, there is a risk to introduce any long-term liquidity injection," said Neeraj Gambhir, head of treasury at Axis Bank.

Instead, some traders, including Arun Srinivasan, head of fixed income at ICICI Prudential Life Insurance, have a more radical solution.

"The RBI could choose to gradually reduce the CRR (cash reserve ratio), similar to how they raised it earlier to remove excess liquidity," said Srinivasan. ($1 = 82.8870 Indian rupees)

(Reporting by Dharamraj Dhutia; Editing by Savio D'Souza)