Question

How does the Central Bank control credit through SLR?

How does the central bank use the SLR and credit rationing to exercise credit control in a country?

Answer 1

1. The Central Bank regulates lending through the Statutory Liquidity Ratio (SLR), which requires commercial banks to hold a certain percentage of their net demand and time liabilities (NDTL) in liquid assets like cash, gold, or government securities.
2. By altering the SLR, the Central Bank can influence the amount of cash available to banks for lending. A higher SLR limits the money available for lending, tightening credit; a lower SLR enhances banks' lending ability, boosting credit.
3. The central bank establishes the Statutory Liquidity Ratio (SLR) as the minimum percentage of a bank's net demand and time liabilities (NDTL) that must be held in liquid assets.
4. Adjusting the SLR limits the amount of money that banks can lend; a higher SLR reduces loanable funds.
5. Increasing the SLR helps to limit inflation by lowering the money supply, raising borrowing costs, and slowing economic activity.
6. A greater SLR guarantees that banks have sufficient liquid assets, which promotes financial stability and solvency.
7. Changes in the SLR affect interest rates; a greater SLR often results in higher interest rates, making borrowing more expensive.
8. Raising the SLR may indirectly increase savings since higher interest rates make saving more appealing than borrowing.
9. Increasing the SLR can limit excessive credit expansion, avoiding asset bubbles and financial instability.