DYK: Difference between CRR and SLR
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In a surprise move, the Reserve Bank of India (RBI) cut the statutory liquidity ratio (SLR) by 50 basis points to 22.5% from 23% while keeping key policy rates unchanged in the monetary policy announcement on 3 June 2014. But what is SLR and cash reserve ratio (CRR), and how are they different?
Statutory liquidity ratio
Banks are required to invest a certain percentage of their time and demand deposits in assets specified by RBI, including gold, and government bonds and securities. In monetary jargon, SLR is that percentage of net demand and time liabilities (NDTL); in other words, bank deposits, that must be used to buy specified assets. The SLR ratio has been in a range of 23-25% for the past 10 years. The current SLR ratio of 22.5%, which means that for every Rs.100 deposited in a bank, it has to invest Rs.22.50 in any of the asset classes approved by RBI. Banks usually keep more than the required SLR, and at present, the actual SLR stands at 29%. RBI wants banks to hold a part of the money in near cash so that they can meet any unexpected demand from depositors at short notice by selling the bonds.
In India, historically, banks’ SLR has been high as they need to bear the burden of the government’s fiscal deficit. The government borrows from the banks every year to bridge the fiscal deficit. A cut in SLR indicates that RBI is confident of the government’s commitment to fiscal consolidation.
Cash reserve ratio
CRR is a portion of the banks’ NDTL or deposits that need to be kept in their specified current accounts maintained with RBI. This money earns no interest. The current CRR level is 4%. This means that for every Rs.100 of deposit that a bank holds, it keeps aside Rs.4 with RBI. CRR, which is maintained on a fortnightly basis, is a tool that the central bank uses to manage money supply and liquidity in the market. Generally, it is increased to reduce the outstanding liquidity in the system. RBI reduces CRR if it needs to increase the money supply in the economy.
Both SLR and CRR are considered as reserves. A higher reserve requirement through, say, CRR and SLR, makes banks’ deposits relatively safe but at the same time increases the effective cost of their funds. This is because a certain portion of their deposits are always redeemable. Lowering of reserve requirement increases the resources available with a bank to lend.
The important difference between CRR and SLR is that CRR has to be maintained in cash while SLR can be maintained either in cash or in assets that RBI suggests. Banks don’t earn any returns from the money parked in the form of CRR. However, banks can earn returns from SLR.