Page 128 - DMGT401Business Environment

Unit 5: Monetary Policy

Notes

Notes IDBI Buys 3000 Cr Gilts to Bolster SLR Kitty

The Industrial Development Bank of India (IDBI) has bought 3,000 crore worth of
government securities to build up its statutory liquidity ratio (SLR) portfolio. It has been
granted five years forbearance by the Reserve Bank of India (RBI) to meet the SLR
requirements following its conversion into a bank. IDBI's SLR requirement today would
amount to 12,000 crore.
IDBI had deposited 2,200 crore with the Reserve Bank of India on October 1, the day it
converted into a bank, towards cash reserve ratio (CRR).

Banks need to invest 25% of their net demand and time liabilities (deposits) in government
securities for the purpose of meeting the SLR and place 5% of the deposits with the RBI for
maintaining the CRR.

Source: Business Standard, Dec. 7, 2004
The Banking Regulation (Amendment Act, 1962) provides for maintaining a minimum
statutory liquidity ratio of 25% by the bank against their net demand and time liabilities.
It gradually reached as high as 38.5% in 1990 and remained there till 1992. The objective of
such a high SLR is to counter inflationary pressure which touched double digits at that
time. As an impact of SLR on inflation and interest rate is same as that of CRR, so it is the
combined affect of CRR and SLR that during 1990-92, the economy faced severe liquidity
crunch and commercial banks' interest rates were as high as 17% and even more. The RBI
increased CRR and SLR for two reasons:

(a) Higher liquidity ratio forces commercial banks to maintain a larger proportion of
their resources' illiquid form and thus reduces their capacity to grant loans and
advances to business and industry. This it leads to an inflationary condition.
(b) A higher liquidity ratio diverts banks from loans and advances to investment in
government and other approved securities. It diverts funds from banks to
government expenditure.

After accepting the Narsimhan Committee recommendations, the RBI reduced in 1993-94
to 25% in a phased manner.

Task Prepare a report on the changes in CRR and SLR that took place since 1991
and their influence on the CRR and SLR (Consult RBI website).

6. Direct Credit Allocation and Credit Rationing: The RBI directs the distribution and
allocation of credit among different sectors, borrowers, and users through the fixation of
specific and direct quantitative credit ceilings or credit targets. The objective was to mobilise
the money in the priority sector. This technique was first introduced in November 1973
when the RBI stipulated a ceiling of 10% on the increase in non-food credit by the banking
system for the busy season of 1973-74 over the outstanding amount, as at the end of
September 1973.
In order to achieve regional or geographical balances in respect of credit disbursal, the RBI
has been asking banks to achieve a certain prescribed credit-deposits ratio in respect of
their rural and semi-urban branches separately.

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