Engineer's Finance

An announcement made by the RBI after a review of the Indian economy is termed as credit policy. It announces changes in key credit management tools like the bank rate, repo rate, reverse repo rate, SLR and CRR.

In its credit policy, the RBI makes a statement on the country’s economy, expected GDP growth rate in a quarter or a year, the level of inflation that it will be comfortable with, and a host of other things.

As of now the RBI is concerned about inflation, which has breached the 5.5 per cent level, (As of today – 11.8 while writing this article) it was comfortable with. It is in this backdrop that the bankers, stock market punters and economists believe the RBI will hike key indicative rates like the CRR, reverse repo and the bank rate.

The RBI’s decisions will impact banks, the stock markets, economists, various other economic agents and even you and me. It will affect our decision, or how much we have to pay for home loans, two-wheeler loans or personal loans.

It is the money value of all goods and services produced by a country in one accounting year. April 1 — March 31 is considered as one accounting year, or a financial year, in India.

A laborer working in an iron mill, a weaver spinning yarn, a farmer harvesting crop or a software engineer writing code all get paid at the end of the month; in some way, they convert their effort into money.

If you read something like the RBI expects India’s GDP to grow at 9% for fiscal (accounting) year 2008, it means that if India’s GDP in 2007 was Rs 100, this financial year it would be Rs 109.

Many people prefer to write national income instead of GDP.

As per section 42 (1) of the RBI Act, 1934, every commercial bank has to maintain with the RBI (every fortnight) a minimum of 3% of its NDTLs compared to the previous Friday.

For example, if CRR is to be calculated today (assuming that today is that reporting fortnight), then it will be only 3% of the NDTLs on the previous Friday.

Found that confusing? Here’s an example that should make it easier.

Assume July 25 is the Friday on which the bank has to make its report.

Bank A, which has a NDTL of Rs 100 on July 18 (the previous Friday), will have to maintain a CRR of Rs 3 with the RBI on July 25 (assuming it has been asked to keep a CRR of 3 per cent).

CRR, as of today, stands at 8.75 per cent. This is over and above the SLR requirement.

As a statutory obligation under Section 24 (b) of the Banking Regulation Act, 1949, every bank has to keep a fixed minimum portion of their Net Demand (savings account) and Time (fixed deposits) Liabilities (NDTLs) aside at the end of every day.

The SLR can be in the form of cash, gold or bonds issued by the government (a financial instrument for which the government pays a fixed rate of interest to the buyer).

While demand deposits can be withdrawn any time without giving any prior notice, time deposits need a notice period for their withdrawal.

The SLR is always expressed as a percentage of the NDTL. If a bank’s NDTL is Rs 100 on January 31 and the SLR fixed by the RBI is at 20%, then that bank has to either keep Rs 20 aside or invest it in gold, bonds or both. This means that only Rs 80 will be available to the bank for its lending operations.

The savings account deposits as well as fixed deposit amount that we deposit in a bank are the bank’s liabilities. The SLR as of today stands at 25% and the RBI has the authority to increase it to a maximum of 40%.

Any reduction in the SLR level increases the amount of money available with banks for lending to individuals, companies or other banks. Any hike in the SLR has the opposite effect.

How this affects us: A reduction in SLR, ideally, means you should have to pay a cheaper rate of interest on your loans and vice versa.

This is the rate at which banks lend money to their prime customers. This rate is often lower than the rate at which banks lend money to their other customers.

Most PLR customers are top blue-chip companies that have excellent credit records (have never defaulted on their interest payments to the banks from which they borrowed money).

If the RBI increases the bank rate, banks will go ahead and increase their PLRs.

How this affects us: This, in turn, will increase your home loan rates as they are linked to (benchmarked to) PLRs. Home loan rates are always priced below a bank’s PLR as they fall under the priority sector category.

Personal loans and vehicle loans, on the other hand, are always priced above a bank’s PLR.