Financial Concepts

What are CRR and SLR?
CRR (Cash Reserve Ratio) is the part of deposits the banks have to maintain with RBI. This serves two
purposes - it ensures that a part of bank deposits is totally risk-free and also, it enables RBI control liquidity,
and thereby, inflation. Besides CRR, banks are required to invest a portion (25%) of their deposits in
government securities as a part of their statutory liquidity ratio (SLR) requirements. The government securities
(called gilt-edged securities/ gilts) are Central government bonds to meet its revenue requirements. Although
long-term, they are liquid as they have a ready secondary market.

What impact does a cut in CRR have on interest rates?
The RBI prescribes a CRR, or the minimum amount of cash that the banks have to maintain with it. It is fixed
as a percentage of total deposits. The deposits earn around 4 %, less than half of the average cost of funds for
banks. At present, the total bank deposits are Rs 6,90,000 crore. Therefore, a one percent cut in CRR means
the banking system will have nearly Rs 7, 000 crore more available for lending. As more money chases the
same number of borrowers, interest rates come down.

Does a change in SLR impact interest rates?
SLR reduction is not so relevant in the present context for two reasons: One, the government has begun
borrowing at market-related rates. Therefore, banks get relatively better interest for their statutory
investments in government securities.

Second, banks are still the main source of funds for the government, which means despite a lower SLR
requirement, banks’ investment in government securities will go up as government borrowing rises.
Consequently, bank investment in gilts continues to be higher than 30 % despite RBI bringing down the
minimum SLR to 25 % a couple of years ago.

Therefore, to determine the interest rates, what matters is not the SLR requirement but the size of the
government borrowing programme. As government borrowing increases, interest rates, too, look up.

What is PLR? What does a cut in PLR mean?
Prime Lending Rate (PLR) is the rate at which banks lend working capital to their best customers. However,
most of them receive funds at a mark-up to the PLR of up to 3.5 % (PLR+). A company not considered a good
risk will, therefore, get working capital loans at 15.5 %per cent even when the PLR is 12 %

However, there are some loans to which PLR do not apply - like some priority sectors, which are at directed
and sub-PLR rates. At the same time, banks can charge higher rates on consumer loans such as car loans
which are governed by their PLR.

Besides working capital loans, banks provide term loans to companies for new projects, for which they
announce a separate medium-term prime lending rate (MTPLR). A cut in PLR means money is available at
cheaper rates, thereby giving a fillip to new projects, encouraging new investments and stimulating demand.