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Statutory Liquidity Ratio - Everything you Need to Know

IndianMoney.com Research Team | Updated On Thursday, May 23,2019, 06:24 PM

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Statutory Liquidity Ratio - Everything you Need to Know

 

 

What is Statutory Liquidity Ratio?

SLR or statutory liquidity ratio refers to the amount that the banks must maintain in the form of liquid assets and cash reserves with the RBI before lending to customers. SLR is a monetary policy instrument of the RBI. It is used by the RBI to control liquidity in the economy. The banks are liable to pay penalty for failure on maintaining the SLR with the RBI, at a penal rate of 3% over the bank rate. SLR is the ratio of liquid assets to NDTL (Net Demand and Time Liabilities).

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Statutory Liquidity Ratio - Everything you need to know

How does Statutory Liquidity Ratio work?

The RBI has stated that each bank maintain SLR or statutory Liquidity Ratio at all times. Banks must have a portion of their Net Demand and Time Liabilities or NDTL in the form of cash, liquid assets, gold and so on. The ratio of the banks liquid assets is known as SLR. This is different from cash reserve ratio and must not be confused with it.

A cash reserve ratio is the percentage of the overall deposits of the bank that is maintained with the RBI.   The RBI is the central authority which regulates the banking system and is responsible for controlling and modifying the SLR. The RBI can increase the SLR by 40% to reduce liquidity or control inflation. This helps the RBI maintain economic stability, by keeping inflation in check and also maintain price stability. Therefore, SLR is an instrument of the monetary policy of the RBI.

The Formula for SLR Rate:

The formula for calculating SLR ratio is = (liquid assets / (demand + time liabilities)) * 100%.

Components of Statutory Liquidity Ratio:

Listed below are the components of the statutory liquidity ratio:

Liquid Assets:

SLR is maintained in the form of liquid assets like gold and approved securities, along with a percentage of cash. These liquid assets can be converted into cash, very easily. However, these liquid assets cannot be used by the banks to provide loans or for investing in the stock markets. These liquid assets can be gold, government bonds, treasury bills, the government approved securities and cash reserves.

Net Demand and Time Liabilities:

NDTL refers to the sum of the time and demand liabilities with the public and other banks. Demand liabilities are the sum of all the liabilities of the bank that must be paid on demand. Demand liabilities include demand drafts, current deposits, balance in overdue FD and the demand liabilities of the savings bank deposits.

Time deposits are the liabilities of the bank that are paid to the depositors on maturity. Time liabilities have a lock-in period and these deposits cannot be withdrawn before the maturity period ends. The time liabilities of the banks include fixed deposits, call money market borrowings, certificate of deposits, investment deposits in other banks, staff security deposit and time liabilities of savings bank deposits.

SLR Limit:

The SLR limit is the ratio which the RBI can increase or decrease depending on economic needs. The maximum percentage of SLR that can be implemented by RBI is up to 40% and the minimum percentage of SLR that must be maintained by the banks is 0%. The current SLR is 19.5%.

Objectives of Statutory Liquidity Ratio:

  • To control the flow of credit in the commercial banks: The SLR is a useful monetary tool implemented by the RBI, to control the liquidity of the banks. By adjusting the SLR percentage, the RBI can ensure increase or decrease in the bank’s credit expansion.
  • To maintain the solvency of commercial banks: With the implementation of SLR the RBI can compel the commercial banks, invest in securities like government bonds, treasury bills and government approved securities. When the cash reserve ratio is high, banks are in grave need of money. The SLR ratio helps the RBI control the bank’s credit and allows them to maintain solvency.

How SLR affects the economy?

Impact of Lower SLR: A lower statutory liquidity ratio means banks can lend more to the borrowers at a cheaper interest rate. A higher SLR can lead to inflation.

Impact of higher SLR: A higher SLR means the banks cannot lend easily to the borrowers. The loans that are sanctioned also attract a higher rate of interest. A higher SLR helps control inflation in the economy.

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