Statutory Liquidity Ratio (SLR) - All You Need To Know

The banking system is the backbone of a nation’s economy. Hence, governments often tend to have a certain degree of control over the banking operations in their respective countries to prevent any financial crisis. In India, every bank has to adhere to the rules and regulations set by the Reserve Bank of India (RBI).

Apart from various rules and regulations, the RBI uses different monetary policy tools to ensure the smooth functioning of the banks as well as the economy. The SLR is one such important tool that RBI uses to ensure the smooth functioning of banks. It helps the RBI to control inflation and maintain the economic stability of the country.

The statutory liquidity ratio or SLR is the minimum percentage of deposits that a bank has to maintain at all times before providing credit to the customers. The bank has to hold this deposit with itself through cash, gold and other securities.

SLR is the ratio of a bank's liquid assets to net demand and time liabilities (NDTL) that the RBI determines. The RBI can increase or decrease the SLR depending upon the prevailing economic conditions in the country. The SLR cannot be increased beyond 40 per cent.The RBI regulates the SLR to ensure

• Solvency of the bank.
• Maintain adequate cash flow in the economy.

The SLR comprises of two components:

• Liquid Assets The assets or investments that can be easily converted into cash are called liquid assets. A bank’s liquid assets may include cash reserves, gold, treasury bills, sovereign bonds, and other government-backed securities.A bank’s investments in securities covered under various eligible market stabilization schemes or market borrowing programmes also come under liquid assets.
• Net Demand and Time Liabilities (NDTL) A bank has to ensure that its customers can withdraw money from their accounts at any time on demand. Also, the bank has the liability to pay interest toward the amount deposited in various time-linked deposit schemes of the bank.

• Demand Liabilities It is the amount comprising total liabilities that a bank has to pay on the demand of the customer.
• Time Liabilities It is the amount comprising the liabilities that the bank needs to pay on the maturity of a certain period.The banks need to report their NDTL amount to RBI every fortnight for computation and maintenance purposes.

If the bank is facing a liquidity shortage, it can borrow 1 per cent of its NDLT amount under the marginal standing facility, which is in effect from May 9, 2011. The struggling bank can avail of this facility for one day except on Fridays when the facility can be availed for three days or more, maturing on the next working day.

• To Check Inflation Generally, the RBI increases the SLR to control high inflation and decreases the SLR when there is a recession.
• To Prevent Over-lending Lending money is an important aspect of the banking business. However, a bank can go on a lending spree and inadvertently accumulate a large number of bad debts that can cause a financial meltdown. The bankruptcy of Lehman Brothers of the USA in 2008 can be a prime example of such a financial crisis that can affect a whole economy.Therefore, SLR is used by the RBI to have control over the bank credit and ensures that the bank keeps investing in safe government securities in addition to lending.
• To Promote Government Securities The banks can be eligible to seek a temporary loan from RBI on the securities above the stipulated limit of SLR. Therefore, most banks prefer to keep government securities into their profile above the SLR limit to avail money from the RBI immediately in case of a financial emergency.This, in turn, facilitates the government’s debt management programme.
• To Regulate the Supply of Money Whether it is the easy availability of money or the scarcity of it, both patterns are not a healthy sign of an economy. The RBI regulates the supply of money into the economy through SLR.SLR was at 25 per cent in 2010 and came down to 18 per cent in 2021. The steps taken by the government in the last few years suggest that the government is gradually reducing the SLR requirements to provide greater autonomy to banks in lending.

Apart from SLR, the RBI uses the repo rate and reverse repo rate to regulate the economy. The current repo rate in India is 4 per cent.The rate at which banks borrow money from the RBI is called the repo rate, and the rate at which the RBI borrows money from the banks is called the reverse repo rate.The money flow decreases with an increase in the repo rate and increases with the decrease in the repo rate.

While both SLR and CRR are important components of the monetary policy, they are different in many aspects.

As per the RBI guidelines, maintaining SLR is mandatory for all types of licensed banks in India. In the case of non-maintenance of SLR, the RBI can levy an annual penalty over the bank rate at an interest rate of 3 per cent.The interest rate will increase to 5 per cent if the concerned bank defaults on the next working day too.This is done to ensure that the bank maintains adequate cash to fulfil a customer's demand for cash readily.

The RBI uses SLR as one of the reference rates while determining the minimum lending rate. The minimum lending rate is more commonly known as the base rate. As per the RBI guidelines, no bank can lend funds to its borrowers below the base rate.

• The base rate helps the banks provide affordable loans to retail and corporate borrowers by cutting down their lending costs.
• The uniformity of the base rate across the banking sector ensures transparency in the credit market concerning borrowing and lending.
• The rise in base rate can likely result in higher loan repayment amounts and vice versa. However, such changes are not guaranteed as some other factors can also affect the loan repayment amount.
• SLR indirectly helps an account holder by ensuring the bank keeps an adequate amount to fund any withdrawal.

While one might argue that understanding SLR is not essential for a common investor or lender, we should remember that we are no longer an isolated economy. Every change in the RBI monetary policy directly or indirectly impacts our life.You can be more confident while making your financial decisions if you understand SLR and RBI's other key monetary policies well. Besides, you might by now have recognized that the complex working of SLR is relatively easier to know.

The information contained herein is generic in nature and is meant for educational purposes only. Nothing here is to be construed as an investment or financial or taxation advice nor to be considered as an invitation or solicitation or advertisement for any financial product. Readers are advised to exercise discretion and should seek independent professional advice prior to making any investment decision in relation to any financial product. Aditya Birla Capital Group is not liable for any decision arising out of the use of this information.