Statutory Liquidity Ratio popularly called SLR is the minimum percentage of deposits that the commercial bank maintains through gold, cash and other securities. However, these deposits are maintained by the banks themselves and not with the RBI or Reserve Bank of India.
Every bank must have a particular portion of their Net Demand and Time Liabilities (NDTL) in the form of cash, gold, or other liquid assets by the end of the day. The ratio of these liquid assets to the demand and time liabilities is called the Statutory Liquidity Ratio (SLR). The Reserve Bank of India (RBI) has the authority to increase this ratio by up to 40%.
An increase in the ratio constricts the ability of the bank to inject money into the economy. RBI is also responsible for regulating the flow of money and stability of prices to run the Indian economy. Statutory Liquidity Ratio is one of its many monetary policies for the same. SLR (among other tools) is instrumental in ensuring the solvency of the banks and cash flow in the economy.
Section 24 and Section 56 of the Banking Regulation Act 1949 mandates all scheduled commercial banks, local area banks, Primary (Urban) co-operative banks (UCBs), state co-operative banks and central co-operative banks in India to maintain the SLR. It becomes pertinent to know in detail about the components of the SLR, as mentioned below.
These are assets one can easily convert into cash – gold, treasury bills, govt-approved securities, government bonds, and cash reserves. It also consists of securities, eligible under Market Stabilisation Schemes and those under the Market Borrowing Programmes.
NDTL refers to the total demand and time liabilities (deposits) of the public that are held by the banks with other banks. Demand deposits consist of all liabilities, which the bank needs to pay on demand. They include current deposits, demand drafts, balances in overdue fixed deposits, and demand liabilities portion of savings bank deposits.
Time deposits consist of deposits that will be repaid on maturity, where the depositor will not be able to withdraw his/her deposits immediately. Instead, he/she will have to wait until the lock-in tenure is over to access the funds. Fixed deposits, time liabilities portion of savings bank deposits, and staff security deposits are some examples. The liabilities of a bank include call money market borrowings, certificate of deposits, and investment deposits in other banks.
A bank or a financial institution can experience over-liquidation in the absence of SLR when the Cash Reserve Ratio goes up, and the bank is in dire need of funds. RBI employs SLR regulation to have control over the bank credit. SLR ensures that there is solvency in commercial banks and assures that banks invest in government securities.
The Reserve Bank of India raises SLR to control the bank credit during the time of inflation. Similarly, it reduces SLR during the time of recession to increase bank credit.
Both SLR and CRR are the components of monetary policy. However, there are a few differences between them. The following table gives a glimpse into the dissimilarities:
Statutory Liquidity Ratio (SLR)
Cash Reserve Ratio (CRR)
In the case of SLR, banks are asked to have reserves of liquid assets which include both cash and gold.
The CRR requires banks to have only cash reserves with the RBI
Banks earn returns on money parked as SLR
Banks don’t earn returns on money parked as CRR
SLR is used to control the bank’s leverage for credit expansion.
The Central Bank controls the liquidity in the Banking system with CRR
In the case of SLR, the securities are kept with the banks themselves, which they need to maintain in the form of liquid assets
In CRR, the cash reserve is maintained by the banks with the Reserve Bank of India.
The Statutory Liquidity Ratio acts as one of the reference rates when RBI has to determine the base rate. The base rate can be considered as the minimum lending rate. No bank can lend anybody below this rate. This rate is fixed to ensure transparency concerning borrowing and lending in the credit market.
The Base Rate also helps the banks to cut down on their cost of lending to be able to extend affordable loans. When RBI imposes a reserve requirement, it ensures that a particular portion of the deposits are safe and are always available for customers to redeem. However, this condition also restricts the bank’s lending capacity. To keep the demand in control, the bank will have to increase its lending rates.
In India, every bank such as a scheduled commercial bank, state cooperative bank, cooperative central banks, and primary cooperative banks – is required to maintain the SLR as per the RBI guidelines. For computation and maintenance of SLR, banks have to report their latest net demand and time liabilities to RBI every fortnight (Friday). If any commercial bank fails to maintain the SLR, RBI will levy a 3% penalty annually over the bank rate. Defaulting on the next working day too will lead to a 5% fine. This will ensure that commercial banks do not fail to have ready cash available when customers demand them.
Apart from SLR, repo rate and reverse repo rate are other metrics that the RBI uses for economic regulation. Whenever RBI modifies the rates, it impacts every sector of the economy, albeit in different ways. Some segments gain as a result of the rate hike, while others may suffer losses. In some instances, there can be a considerable impact on big loans like home loans due to a change in reverse repo rates.
If the RBI cuts the repo rate, it need not necessarily mean that the home loan EMIs would get lesser. Even the interest rates may not go down. The lending bank also needs to reduce its ‘Base Lending’ rate for the EMIs to decrease.