Monetary Policy Rate: CRR, SLR, Repo, Reverse Repo, MSF

Monetary Policy Rate: Rates Like CRR, SLR, Repo are used by RBI to adjust the liquidity in Indian Economy. Do you known the exact meaning of these terms? We will explain all these with examples. Read the full post for detailed information. 

Monetary Policy– It is a financial policy made by the Reserve Bank of India to control the money supply in the Indian Economy.
The Reserve Bank controls the money supply by using various tools like Liquidity Adjustment facility (LAF) [includes Repo and Reverse Repo] and Open Market Operations. We will discuss each tool one by one.

Contents Covered in This Post

  • Net Demand and Time Liability (NDTL)
  • Cash Reserve Ratio (CRR)
  • Statutory Liquidity Ratio (SLR)
  • Repo Rate
  • Reverse Repo Rate
  • Corridor Gap
  • Liquidity Adjustment facility (LAF)
  • Marginal Standing Facility (MSF)
  • Difference Between Repo and Marginal Standing Facility (MSF)
  • Bank Rate

Net Demand and Time Liability (NDTL)

It is the total of Demand Liability and Time Liability.

  • For Banks the demand liability is refers to those deposits that can be withdrawn on demand. Like Savings and Current Deposit.
  • While Time Liability refers to those deposits that are repayable after secific maturities.
  • The total of this Demand and Time Liability is termed as NDTL. This concept will be useful in understanding many other concepts.

CRR and SLR

Cash Reserve Ratio (CRR)– all Banks (scheduled and non scheduled) have to maintain a certain percentage of their NDTL with the Reserve Bank of India. This percentage is decided by RBI from time to time. Banks to to keep this much percent Cash with the RBI. Cash Reserve Ratio (CRR) ensures that a part of the bank’s deposit is with the RBI and is hence safe.

Section: Section 42(1) of the RBI Act, 1934

Penal Rate: If a bank fails to maintain the required CRR it has to pay some penalty amount to RBI on the amount that was short.

  • For First Day: Bank Rate + 3%
  • For Next Days: Bank Rate + 5%
Impact of Increasing or Decreasing CRR
  • Increase CRR = Less Liquidity (CRR Increased -> Banks have to submit more money as reserve -> Banks have less money at their disposal -> Hence Banks will lend less -> Hence money in economy will shrink -> Hence Less Liquidity)
  • Decrease CRR = More Liquidity (CRR Decreased -> Banks have to submit less money as reserve -> Banks have more money at their disposal -> Hence Banks will lend more -> Hence money in economy will increase -> Hence More Liquidity)

Note: CRR is the minimum amount that banks have to maintain as reserve with the RBI. Banks can maintain more reserve though. However no Interest is paid on CRR.

Statutory Liquidity Ratio (SLR)

Statutory Liquidity Ratio (SLR)- is the percentage of NDTL that banks have to set aside in form of either Cash, Gold, Investment in Government Securities. RBI can prescribe SLR ranging from 0% to 40%.

Objectives of SLR:

  • To increase the Banks investment in approved government securities,
  • To ensure Solvency of the bank (as this much money is safe)
  • To restrict unlimited credit expansion

Section: Section 24 of Banking Regulation Act 1949.

Penal Rate: If a bank fails to maintain the required SLR it has to pay some penalty amount to RBI on the amount that was short.

  • For First Day: Bank Rate + 3%
  • For Next Days: Bank Rate + 5%

The Impact of Increase/Decrease in SLR is same as that of CRR.

CRR, SLR by Example

Suppose a Bank A has Rs 100 Crore of NDTL.
Let CRR=4% and SLR=20%
Hence Bank has to set aside 4/100*100 crore= 4 crore as CRR with RBI
and 20/100*100 crore=20 crore the bank has to invest in government securities/gold.
Hence the bank now has = 100-4-20= 76 crore only for use.
The remaining 24 Crore is safe and can be used in case of emergency.

What is Repo Rate and Reverse Repo Rate?

Repo Rate: It is the interest rate charged by RBI from banks, when Banks borrow money from RBI. Repo Rate is also known as Policy Rate in India. (Bank has to pay this much interest)

Reverse Repo Rate: Banks can park their excess money with RBI to earn some interest. The interest paid by RBI to banks when the Banks deposit their money with RBI. This is done aganist government securities. (Banks will get this much interest)

Corridor Gap- The difference between Repo Rate and Reverse Repo Rate is known as Corridor Gap or Rate of Corridor. Suppose Repo Rate= 6.25% and Reverse Repro Rate=6%
Then Rate of Corridor = 0.25% or 25 bps.

Liquidity Adjustment facility (LAF)

It is a liquidity adjustment mechanism used by RBI for adjustment of liquidity in the economy. Under LAF the liquidity injection is done through Repo operations (Since Bank is borrowing money from RBI) while liquidity absorption (Since bank is submitting its money to RBI) from banks is done through Reverse repo operations. Though the concept is more complex, this much understanding is enough for entrance exams like IBPS, RBI, RBI Assistant.

Marginal Standing Facility (MSF)

It is a facility provided by RBI under which banks can lend money from RBI overnight (1 day or if its friday then for 3 days). It is a facility by RBI for banks to match their short term cash mis-match. See both LAF Repo and MSF are a mean for Banks to take loan from RBI. Lets see the difference between LAF Repo and MSF

Repo Rate vs msf

Difference Between Repo and Marginal Standing Facility (MSF)

Point LAF Repo MSF
Duration For long term loans For overnight loans
Eligibility Scheduled Commercial Banks (excluding Regional Rural Banks) and Primary Dealers (PDs) All Scheduled Commercial Banks
Minimum Amount Rs.5 crore and in multiples of Rs. 5 crore  Rs. One croreand in multiples of Rs. One crore
Limit of borrowing No LImit 2% of NDTL
SLR Securities? Borrowing cannot be made against SLR Securities Borrowing can be made against SLR Securities

  • Reverse Repo Rate= Repo Rate + Corridor Gap
  • MSF= Repo Rate + Corridor Gap

Bank Rate: It is a tool that has become dormant now. It is the rate at which the Reserve Bank use to buy or re-discount bills of exchange or other commercial paper of the bank. With the introduction of Liquidity Adjustment Facility, RBI has discontinued the discounting/rediscounting of bills of exchange. Hence now Bank Rate is not used as a tool of Policy Rate. However since most of the Penal Rate is linked with Bank Rate, the use of bank rate is limited to the Penal Rates.

Note: All these tools are Quantitative tool of monetary policy.

Conclusion: The Reserve Bank of India uses these tools for liquidity management. Was this post good enough to explain these topics? Post you comments about it. If you need more such information you can post the topic of your interest.

 

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3 thoughts on “Monetary Policy Rate: CRR, SLR, Repo, Reverse Repo, MSF”

  1. AJAY PRAKASH UNIYAL

    Very nice information…but little more information can be told about REPO REVERSE REPO TLRO….. And MPC committee…
    And corridor too

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