Cash Reserve and Liquidity Ratios: A Primer

This is a guest post by Dheeraj Singh. Dheeraj is a former fund manager for many years
specializing in fixed income. Used to head fixed income at IL&FS Mutual Fund (before it got
taken over by UTI) and subsequently worked with Sundaram BNP Paribas Mutual Fund
(now Sundaram Mutual Fund) heading the fixed income desk. He runs Finanzlab Advisors, a
treasury and risk management consultancy.

Table of Contents
Introduction
CRR The Cash Reserve Ratio
SLR Statutory Liquidity Ratio
Net Demand and Time Liabilities
What constitutes NDTL?
NDTL Base for CRR and SLR
Demand Liabilities
Time Liabilities
Other demand and time liabilities (ODTL)
Inter Bank Assets
Liabilities not to be included in DTL / NDTL calculation
NDTL Computation
CRR Maintenance
The nitty gritty of CRR maintenance
Reporting Friday and Reporting Fortnight
Penalties
SLR Maintenance
Specified Investments
Penalties
Footnote

Introduction: The Reserve Ratios A Primer

Cash Reserve Ration(CRR) and Statutory Liquidity Ratio (SLR) are two important reserve
ratios applicable to banks. These are also tools that the Reserve Bank of India uses in the
conduct of its monetary policy.
The purpose of this primer is to provide a working knowledge and understanding of these
reserve ratios. The content of this primer is based on RBIs Master Circular on the subject
and my own practical knowledge gained through the many years that I have been involved

with the money and debt markets as a fund manager. Errors and Omissions if any are
entirely mine. If you do spot any errors, please let me know in the comments.

CRR The Cash Reserve Ratio

CRR is that proportion of a banks Net Demand and Time Liabilities (NDTL) that it has to
keep as cash deposits with RBI. Cash deposits do not mean physical cash, but a credit
balance in a current account that every bank maintains at RBI.
This proportion is specified by RBI and could change from time to time. Currently (on the
date this piece is being published), CRR is 4.75%.
CRR is governed by the provisions of Section 42 of the Reserve Bank of India Act, 1934.
There is no minimum level of CRR. We could go upto zero CRR (negative values are of
course absurd). Similarly, there is no maximum. In theory, CRR can go upto 100%, which
would mean RBI impounding the entire NDTL as a cash reserve.
Until the RBI Act was amended in 2007, the minimum value of CRR was statutorily fixed at
3% and the maximum was fixed at 20%. Both these limits (lower and upper) were removed
by the amendment which came into effect in early 2007.
SLR Statutory Liquidity Ratio
SLR is that proportion of a banks Net Demand and Time Liabilities (NDTL) that it has to
maintain as investments in certain specified assets. SLR is governed by the provisions of
Section 24 of the Banking Regulation Act.
There is no minimum stipulation on SLR (earlier there used to be a minimum stipulated SLR
of 25% but this was removed with an amendment to the Banking Regulation Act in 2007).
However, SLR can not exceed 40%.
Net Demand and Time Liabilities
It is quite apparent that to arrive at CRR or SLR we need to first calculate NDTL.
What constitutes NDTL?
As the name suggest there are three broad components to NDTL.
Demand Liabilities
Time Liabilities; and

A Netting Amount that is reduced from the Demand and Time Liabilities.
Additionally Demand and Time Liabilities (DTL) are further broken up into
DTL to the banking system;
DTL to Others; and
Other DTL.
RBI has been empowered to decide on what kind of liabilities fall under DTL. In case of
doubt, banks are advised to get a clarification from RBI.
NDTL Base for CRR and SLR
Is CRR and SLR maintained on the same base viz NDTL?
The short answer is, No.
While the NDTL calculation is broadly the same, there are some important differences when
it comes to its use to compute CRR and SLR.
Some items are exempt for CRR purposes and so, the base on which CRR is to be
maintained is not the same as the base on which SLR is computed. We shall look at these
differences in the base a little later.
Demand Liabilities
Demand Liabilities of a bank are liabilities which are payable on demand. These include
current deposits;
demand liabilities portion of savings bank deposits;
margins held against letters of credit / guarantees;
balances in overdue fixed deposits;
cash certificates and cumulative/recurring deposits;
outstanding Telegraphic Transfers (TTs);
Mail Transfer (MTs);
Demand Drafts (DDs);
unclaimed deposits;
credit balances in the Cash Credit account; and
deposits held as security for advances which are payable on demand.
Time Liabilities
Time Liabilities of a bank are those liabilities that are payable other than on demand.

These include
fixed deposits;
cash certificates;
cumulative and recurring deposits;
time liabilities portion of savings bank deposits;
staff security deposits;
margin held against letters of credit, if not payable on demand;
deposits held as securities for advances which are not payable on demand; and
gold deposits.
Other demand and time liabilities (ODTL)
ODTL includes:
interest accrued on deposits;
bills payable;
unpaid dividends;
suspense account balances representing amounts due to other banks or public;
net credit balances in branch adjustment account;
Cash collaterals received under collateralized derivative transactions.
Any amounts due to the banking system which are not in the nature of deposits or borrowing
are also to be included in other demand and time liabilities. Such liabilities may arise due to
items like (i) collection of bills on behalf of other banks, (ii) interest due to other banks and so
on
Inter Bank Assets
Assets with the banking system include
balances with banks in current account;
balances with banks and notified financial institutions in other accounts;
funds made available to banking system by way of loans or deposits repayable at call
or short notice of a fortnight or less; and
loans other than money at call and short notice made available to the banking system.
Any other amounts due from banking system which cannot be classified under any of the
above items are also to be taken as assets with the banking system.
Liabilities not to be included in DTL / NDTL calculation
The following liabilities are not be included in the DTL calculation for purposes of maintaining

CRR and SLR

Paid up capital, reserves;
Any credit balance in the Profit & Loss Account of the bank;
Amount of any loan taken from the RBI;
Amount of refinance taken from Exim Bank, NHB, NABARD, SIDBI;
Net income tax provision;
Amount received from Deposit Insurance and Credit Guarantee Corporation (DICGC)
towards claims and held by banks pending adjustments thereof;
Amount received from ECGC by invoking the guarantee;
Amount received from insurance company on ad-hoc settlement of claims pending
judgment of the Court;
Amount received from the Court Receiver;
The liabilities arising on account of utilization of limits under Bankers Acceptance
Facility (BAF);
District Rural Development Agency (DRDA) subsidy of Rs.10, 000/- kept in Subsidy
Reserve Fund account in the name of Self Help Groups;
Subsidy released by NABARD under Investment Subsidy Scheme for
Construction/Renovation/Expansion of Rural Godowns;
Net unrealized gain/loss arising from derivatives transaction under trading portfolio;
Income flows received in advance such as annual fees and other charges which are
not refundable;
Bill rediscounted by a bank with eligible financial institutions as approved by RBI;
Provision not being a specific liability arising from contracting additional liability and
created from profit and loss account.
NDTL Computation
Computation of NDTL is a multi step process as follows :
Compute Demand Liabilities to the banking system
Compute Time Liabilities to the banking system
Take the sum of the above two to arrive at DTL to the Banking System (A)
Compute Demand Liabilities to others
Compute Time Liabilities to others
Take the sum of the above to arrive at DTL to Others (B)
Compute Other Demand and Time Liabilities (C)

Calculate Assets to the banking system (D)

Compute Net Inter Bank DTL by subtracting Assets to the Banking System from DTL to the
banking system - (A-D)
If the Net Inter Bank DTL so calculated is negative or zero, it is ignored.
Thus NDTL is given by
NDTL = (A-D)+(B+C) if A-D is greater than zero,
NDTL = B+C if A-D is less than or equal to zero.
CRR Maintenance
Items on which CRR maintenance is exempt:
Banks are exempted from maintaining CRR on the following liabilities:
Liabilities to the banking system in India.
Credit balances in Asian Clearing Union (US$) Accounts.
Demand and Time Liabilities in respect of their Offshore Banking Units (OBU)
For CRR purposes, NDTL should not include inter-bank term deposits / term borrowing
liabilities of original maturities of 15 days and above and up to one year. Similarly banks
should exclude their inter-bank assets of term deposits and term lending of original maturity
of 15 days and above and up to one year for calculating inter bank assets (which is used to
net off DTL and arrive at NDTL). The interest accrued on such deposits should also not be
included.
As a consequence of the above, CRR is not maintained on
Net Inter Bank DTL;
Non Resident Deposits (NRE and NRNR);
FCNR (B) Short term and Long term;
Exchange Earners Foreign Currency (EEFC) accounts;
Resident Foreign Currency Accounts;
Escrow Accounts by Indian Exporters;
Foreign Credit Line for Pre-Shipment Credit Account;
Overseas rediscounting of bills;
Credit Balances in ACU (US dollar) Account;
The nitty gritty of CRR maintenance

Banks maintain CRR on a fortnightly average basis.

Say, a bank has NDTL of 100 crores and CRR is 5%.
The bank will thus have to maintain 5 crores as cash balance in its account with RBI. This 5
crores is calculated on a fortnightly average basis and the exact modality of how this is done
is explained below.
Reporting Friday and Reporting Fortnight
To understand how this fortnightly average system works, we need to first understand the
concept of reporting fortnight and reporting Friday.
Every alternate Friday is a reporting Friday. As I write, the last reporting Friday was March
23, 2012. So the next reporting Fridays would fall on April, 6, April 20, May 4 and so on. In
case the reporting friday happens to be a holiday, the last previous working day is taken as
the relevant reporting friday.
The 14 day period beginning on the Saturday immediately following a reporting Friday is
called a reporting fortnight. A reporting fortnight therefore begins on a Saturday and ends on
the reporting Friday.
As the name would suggest, banks report their business numbers (deposits, advances,
investments etc.) to RBI as on these reporting Fridays.
For purposes of maintaining CRR and SLR, banks have to calculate their NDTL on every
reporting friday.
However, the actual CRR and SLR maintenance happens with a lag of one fortnight.
So if the NDTL of a bank was 100 crores on March 9, 2012 and (assuming CRR is 5%) the
bank would have to maintain an average cash balance of 5 crores in the reporting fortnight
which begins on March 24.
This reporting and maintenance cycle is repeated over.
The situation can be better understood in the depiction below

Assume A, B and C are dates on a timeline that fall on alternating Fridays. Also, lets say
these are reporting Fridays.
Lets also say that a bank calculates its NDTL on A and it turns out that the NDTL is equal to
100 crores.
If the CRR is 5%, the bank has to maintain an average cash balance of 5 crores over a
fortnight. However, banks are given one fortnights time before they start maintaining these
CRR balances.
So, for NDTL of 100 crores on A, the bank would have to maintain an average cash balance
of 5 crores during the reporting fortnight BC.
To implement this, banks maintain CRR by the fortnightly product method.
Once again, it is easier to understand this with an example.
Lets take our previous example:
If the bank has to maintain 5 crores on an average over the fortnight (14 days) it effectively
has to maintain a product of
5 x 14 = 70 crores
Banks also have to maintain at least 70% of their stipulated CRR average as cash balance
with RBI on every day of the reporting fortnight. This means that the bank in our example
has to maintain
0.70 x 5 = 3.5 crores as cash balance on every day of the fortnight.
Lets say for e.g. that the bank maintains the following cash balances on the first seven days

of the fortnight.
Day 1 : 4 crores
Day 2 : 4.5 crores
Day 3 : 3.5 crores
Day 4 : 7 Crores
Day 5 : 6 crores
Day 6 : 5.5 crores
Day 7 : 6.5 crores
Effectively the bank has maintained a product of

4 + 4.5 + 3.5 + 7 + 6 + 5.5 + 6.5 = 37 crores in the first 7 days.

(To calculate the product we multiply the amount maintained by the number of days the
amount is maintained as balance. Since we are taking daily amounts we simply multiply the
amounts by a factor of 1)
This means that the bank now needs to maintain only 70-37 = 33 crores as product in
the second week of the reporting fortnight.
The minimum 70% stipulation means that banks can maintain neither too low a cash balance
nor too high a cash balance on every day of the fortnight. If they maintain too high a cash
balance during the initial days of the fortnight, it may so happen that the product build up is
rapid and the bank may need to maintain a significantly lower cash balance during the last
few days of the fortnight. This condition could lead to a breach of the minimum 70% rule
which could incur penalties.
Banks thus have to be diligent in the calculation and maintenance of their fortnightly product.
Until this 70% rule was brought in sometime in 2002, banks were free to maintain any
amounts, with the result that volatility in the money market was high, as banks requirement
of funds varied sharply depending on their product build up during the reporting fortnight.
Penalties
From the fortnight beginning June 24, 2006, penal interest will be charged as under
In case of default in maintenance of CRR requirement on a daily basis which is presently 70
per cent of the total CRR requirement, penal interest will be recovered for that day at the rate
of:

Bank Rate + 3% per annum on the amount by which the cash balance
actually maintained falls short of the prescribed minimum on that day.
If the shortfall continues on the next succeeding day/s, the penal interest
levied is at the rate Bank Rate + 5% per annum.
In cases of default in maintenance of CRR on average basis during a fortnight, penal interest
will be recovered as envisaged in sub-section (3) of Section 42 of Reserve Bank of India Act,
1934. Under this section,The penal interest for default is:
if the average daily balance held at RBI by a bank during any fortnight is below the required
average balance for CRR purposes, penal interest will be charged at the rate of

Bank Rate + 3% per annum

on the amount by which the balance falls short of the requirement.
If during the next succeeding fortnight the daily average balance is still below the required
amount, the penal interest liable to be charged is

Bank Rate + 5% per annum

for each subsequent fortnight during which the bank defaults on maintaining the minimum
required balance.
In addition to the above if the default on maintaining CRR continues for more than two
fortnights meaning then any director, manager or secretary who knowingly and wilfully is a
party to such defaults are liable to be fined a princely sum of five hundred rupees for every
fortnight where such default occurs.
More tellingly if such a default on CRR continues for more than two fortnights, RBI has the
power to prohibit the bank from accepting any fresh deposit.
The relevant clause in the RBI Act also says that if the bank contravenes this stipulation of
not accepting any fresh deposit, then any manager, director or secretary who wilfully and
knowingly is a party to such an action shall be fined a princely sum of five hundred rupees.
Of course, we know that RBI can take drastic action under other laws and these small fines
(of five hundred rupees) stipulated in the RBI Act carry little meaning in the real sense.

SLR Maintenance
As has been discussed above, SLR is that proportion of NDTL that the bank has to maintain
in certain specified assets.
It should be noted that for SLR purposes NDTL is calculated slightly differently.
Firstly, all inter bank liabilities and assets are to be included for SLR purposes (unlike
CRR wherein liabilities with original maturity between 15 days and one year were excluded)
Secondly, there are no exemptions (items on which no SLR is to be maintained) unlike
CRR where some items are exempt.
Specified Investments
The specified investments that are eligible for SLR purposes are
Cash
Gold valued at a price not exceeding the current market price
Investment in the following instruments which will be referred to as Statutory
Liquidity Ratio (SLR) securities:
Dated government of india securities
Treasury Bills of the Government of India;
State Development Loans (SDLs) of the State Governments issued from time to time
under the market borrowing programme; and
Any other instrument as may be notified by the Reserve Bank of India.
Of the above, any securities which are encumbered in any way can not be included for SLR
purposes. This also includes situations wherein the security may have been submitted to
RBI as collateral under the daily liquidity adjustment facility (the commonly understood RBI
repo window).
Unlike CRR which is maintained as an average over the entire fortnight, SLR has to be
maintained on all the days of the relevant fortnight.
The relevant fortnight and NDTL are however the same as in the case of CRR.
SLR is therefore maintained on the NDTL as on the reporting Friday of two fortnights ago.
(just like in the case of CRR).
Penalties
If a bank fails to maintain the required amount of SLR, it shall be liable to pay to RBI in

respect of that default, penal interest for that day at the rate of three per cent per annum
above the Bank Rate on the shortfall.
If the default continues on the next succeeding working day, the penal interest may be
increased to a rate of five per cent per annum above the Bank Rate for the concerned
days of default on the shortfall.

Footnote :
In my opinion, the bank rate continues to exist only because of the penalty provisions on
default in maintenance of reserve requirements.
Had these penalty provisions not been linked to the bank rate under the law, we would have
possibly seen the demise of the bank rate as an instrument of monetary policy.
Under the current situation doing away with the bank rate would require amending the RBI
Act and the Banking Regulation Act something that only the Parliament can do. Amending
laws take significant effort, and therefore we might have to live with the bank rate for some
more time.
RBI has anyway made the bank rate irrelevant by equating it to the rate at which it lends
money under the marginal standing facility (MSF). MSF is currently pegged at one percent
above RBIs repo rate.
Update: It seems I may have been a bit enthusiastic in predicting the demise of the bank
rate. Sec 372A of the Companies Act says that companies can not lend to each other at an
interest rate lower than the bank rate. So RBIs increase in bank rate ensures that inter
corporate loans or investment in bonds can only be made if the coupon rate is at least the
bank rate. Of course there are ways around this provision if one is structuring a deal.
However, this just goes to show, how laws enacted ages ago, need to change with the
times. Im sure RBI probably did not intend to regulate the rate of interest paid out in the inter
corporate loans market (or maybe they actually did), when they changed the bank rate
recently and linked it to the marginal standing facility rate.