Notes On

Monetary and Credit Policy of RBI, Liquidity Adjustment

Facility, Repo Rate, Reverse Repo Rate, CRR, SLR ,
Marginal Standing Facility & Bank Rate
Monetary & Credit Policy of RBI: Monetary objective is to achieve price stability by controlling
supply of money in the economy. Credit objective is to ensure adequate supply of credit to realize
the targeted growth. RBIs main concerns are controlling inflation and ensuring growth.
The credit operations in the banking system are guided by directives issued by RBI from
time to time. RBI expresses its views on economy through changes in monetary policy (called
Annual Policy Statement) in the month of April each year for the entire financial year and views it
every mid-quarterly. For policy purpose, the period April to September is known as Slack Season
and the October to March is called Busy Season. The policy normally aims fine tuning the
availability and the cost of credit to productive sectors and to ensure non-inflationary growth.
There are four policy rates and two reserve ratios decided and declared by RBI in their each midquarterly Monetary and Credit Policy. RBI may change these rates/ratios otherwise than policy
declarations depending on certain economic situations. The policy rates are (1) Repo Rate (2)
Reverse Repo Rate (3) Marginal Standing Facility and (4) Bank Rate. The Reverse Ratios are (1)
Cash Reserve Ratio (CRR) and (2) Statutory Liquidity Ratio (SLR)
Liquidity Adjustment Facility (LAF)
Introduced by RBI during June 2000. Last revised w.e.f. 29.10.2004.
Objective: - The funds are used by the banks for their day-to-day mis-matches in liquidity.
Repo Rate: - RBI lends money (for injection of liquidity) to banks. A cut in the repo rate is good for
banks. Present Repo Rate is 7.75.% (w.e.f..29.10.2013) . RBI had increased repo rate thirteen
times since March 10, 2010 to 25.10. 2011. to contain inflation.
On 07.10.2013, RBI declared that it would provide banks additional liquidity through term repos of
7-day and 14-day tenor for up to a quarter of the banking system deposits through auction every
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Friday. W.E.F. 29.10.2013 RBI has increased the liquidity provided through term repos of -7-days
and 14-day tenor from 0.25% of NDTL of banking system to 0.5%.
Reverse Repo Rate: - RBI borrowing rate from Banks. It absorbs liquidity. Increase in reverse
repo rate is positive for banks as banks earn more. Present reverse repo rate is 6.25 %(w.e.f.
29.10..2013)
Tenor: - Repo & Reverse Repo auctions are conducted under LAF window on daily basis except
Saturdays.
Eligibility: - All commercial banks (except Regional Rural Banks RRBs) and Primary Dealers
(PDs) having current account and SGL account with RBI.
Minimum bid size: - Rs.5 crores (multiples of Rs.5 Crore.)
Eligible Securities: - Repos and Reverse Repos in transferable Central Govt. dated securities and
treasury bills.
RBI stipulated that w.e.f 17.07.2013, overall allocation of funds under LAF will be limited to 1%
of Net Demand and Time Liabilities (NDTL) of the banking system, reckoned as Rs. 75,000 crore
for this purpose..

Impact of changes in Repo & Reverse Repo Rates by RBI

A change in policy rates is an indicator of which way are the banks lending and borrowing
rates headed. It also has an indirect impact on customers because banks decide the lending
rates (to their customers) based on RBIs lending and borrowing rates. Banks change their Prime
Lending Rate (Benchmark Prime Lending Rate BPLR for old borrowers) and base rate (for new
borrowers)

Marginal Standing Facility (MSF)

To mop up liquidity, RBI introduced MSF in annual credit policy 2011-12 (effective from 19.5.2011)
to regulate short term Asset Liability Management (ALM) effectively. MSF enables banks to
borrow funds from RBI 1% above the LAF-repo rate against pledging gilts. Banks can avail this
facility when there is considerable shortfall of liquidity. Banks can borrow funds up to 2% of their
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net demand and time liabilities (NDTL). MSF can be availed on overnight basis. Min. request size
is Re.1 crore. MSF is available between 3.30 p.m. to 4.30 p.m. w.e.f 16.6.11, In view of rupee
depreciating in the last six weeks, MSF rate is recalibrated w.e.f. 17.07.2013 to be 300 basis
points above the policy repo rate under LAF. Consequently present MSF rate is 10.25% .
(w.e.f.17.07.2013). However in Mid-Quarterly Policy Review on 20.09.2013, RBI has reduced
MSF rate by 75 basis points from 10.25% to 9.50% w.e.f. 20.09.2013. As rupee has strengthened
RBI eased liquidity by decreasing MSF rate by 50 base points from 9.5% to 9% w.e.f.
07.10.2013. MSF rate is further reduced by 25 base points from 9% to 8.75% w.e.f. 29.10.2013.
This move will reduce rates, and easing liquidity will bring down cost of short term funds.

Major Changes on Policy Rates in Annual Credit Policy 2011-12

Based on recommendations of Working Group to review the Operating Procedure of
Monetary Policy in India (Chairman: Shri. Deepak Mohanty, Executive Director, RBI) RBI
declared in its Annual Policy 2011-12 as follows.
i.

There will henceforth be only one independently varying policy rate and that will be Repo
Rate.

ii.

The Reverse Repo Rate will continue to be operative but it will be pegged at a fixed 100
basis points below the repo rate. It will no longer be an independent rate. A new Marginal
Standing Facility (MSF) was instituted from which Scheduled Commercial Banks (SCBs)
can borrow overnight up to one percent of their respective NDTL. The rate of interest on
amount accessed from this facility will be 100 basis points above the repo rate.

iii.

As per above scheme, the revised corridor will have a fixed width of 200 basis points. The
repo rate will be in the middle. The reverse repo rate will be 100 basis points below Repo
rate and the MSF rate 100 basis points above it.

iv.

RBI will have the flexibility to change the corridor.

v.

In view of RBI declaring MSF rate to 8.75% and repo rate to be 7.25% (consequently
reverse repo rate getting adjusted to 6.75%) w.e.f. 29.10.2013, the present corridor is 200
basis points or 2%
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Cash Reserve Ratio (CRR) [Sec.42(1) of RBI Act 1934]

This is the percentage of cash deposits that banks have to maintain with RBI (RBI Act
1934). An increase in CRR means that banks have to park more money with the Central Bank
and hence a higher CRR sucks out liquidity from banking system. It again increases the cost of
funds for the banks and results in higher interest outgo for the customer. In 2008, RBI slashed
CRR to infuse liquidity into the financial system and rates slipped due to excess liquidity. The
floor & ceiling limit for CRR had been 3% to 20% of their NDTL. However w.e.f. 22/6/2006, RBI is
empowered to fix CRR without any floor or ceiling limit. RRBs also have to maintain same CRR
as applicable to Scheduled Commercial Banks. Present CRR is 4 %(w.e.f. fortnight beginning
February 9,2013). Non-Scheduled Com. Banks (not included in 2 nd schedule of RBI have to
maintain CRR of 3%.
Statutory Liquidity Ratio (SLR)Sec.24 of Banking Regulation Act 1949
(Sec.24 of BRA 1949)
Every bank has to keep an assured amount of funds in cash, gold or govt. bonds before
lending to customers. This measure controls the banks credit expansion. Increase in SLR can
lead to higher lending rates for borrowers. Current SLR is 23% (w.e.f. 11.08.2012)
Bank Rate: As per Sec. 49 of RBI Act 1934, Bank Rate is the rate at which RBI is prepared to buy
or rediscount bills of exchange or other commercial papers eligible for purchase under RBI
Act1934. Bank rate by RBI stands reduced to 9.50% w.e.f. 20.09.2013 and further reduced from
9.5% w.e.f to 9% W.E.F. 17.07.2013..W.E.F. 29.10.2013 Bank Rate is increased by RBI to
8.75%.
Additional Measures taken by RBI to address Exchange Market Volatility:
The overall limit for access to LAF by each individual bank is set at 0.5% of its own NDTL
outstanding as on the last Friday of the second preceding fortnight. Effective from 24.07.2013.
Banks were maintain minimum 70% of the required CRR on daily basis. Effective from first day of
reporting fortnight i.e. 27.07.2013, banks were required to maintain a minimum daily CRR
balance of 99% of an average daily basis. However, RBI on 29.09.2013 reduced the minimum
daily maintenance of CRR from 99% to 95% effective from fortnight beginning 21.09.2013.
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Prepared & Updated By B,J,VED, Faculty MET on 18..07 2013.