Deflation

Deflation :
    
Deflation is the continuous decrease in prices of goods and services. Deflation occurs when the inflation rate becomes negative (below zero) and stays there for a longer period.

EFFECTS

The effects of deflation are:

1.    Decreasing nominal prices for goods and services

2.    Increasing real value of cash money and all assets denominated in cash terms

3.    May decrease investment if cash holdings are seen as preferable

4.    May encourage bank savings in preference to other forms of investment

5.    Benefits creditors at the expenses of debtors

6.    Benefits recipients of fixed incomes

7.    Recessions and unemployment (disputed)

CRR and SLR

Difference between SLR & CRR

SLR restricts the bank’s leverage in pumping more money into the economy. On the other hand, CRR, or Cash Reserve Ratio, is the portion of deposits that the banks have to maintain with the Central Bank.

The other difference is that to meet SLR, banks can use cash, gold or approved securities whereas with CRR it has to be only cash. CRR is maintained in cash form with central bank, whereas SLR is maintained in liquid form with banks themselves

SLR

Statutory Liquidity Ratio

Statutory  Liquidity  Ratio  is  the  amount  of  liquid  assets ,  such  as  cash , precious  metals  or  other approved  securities,  that  a  financial  institution  must  maintain  as  reserves  other  than  the  Cash with  the  Central  Bank . The  statutory  liquidity  ratio  is  a  term  most  commonly  used  in  India.

Objectives

The objectives of SLR are:

1.   To restrict the expansion of bank credit.

2.   To augment the investment of the banks in Government securities.

3.   To ensure solvency of banks. A reduction of SLR rates looks eminent to support the credit growth in India.

The SLR is commonly used to contain inflation and fuel growth, by increasing or decreasing it respectively. This counter acts by decreasing or increasing the money supply in the system respectively. Indian banks’ holdings of government securities (Government securities) are now close to the statutory minimum that banks are required to hold to comply with existing regulation. When measured in rupees, such holdings decreased for the first time in a little less than 40 years (since the nationalisation of banks in 1969) in 2005-06.

While the recent credit boom is a key driver of the decline in banks’ portfolios of G-Sec, other factors have played an important role recently.

These include:

1.   Interest rate increases.

2.   Changes in the prudential regulation of banks’ investments in G-Sec.

Most G-Sec held by banks are long-term fixed-rate bonds, which are sensitive to changes in interest rates. Increasing interest rates have eroded banks’ income from trading in G-Sec.

Recently a huge demand in G-Sec was seen by almost all the banks when RBI released around 108000 crore rupees in the financial system. This was by reducing CRR, SLR & Repo rates. This was to increase lending by the banks to the corporates and resolve liquidity crisis. Providing economy with the much needed fuel of liquidity to maintain the pace of growth rate. However the exercise became futile with banks being over cautious of lending in highly shaky market conditions. Banks invested almost 70% of this money to rather safe Govt securities than lending it to corporates.

Current SLR Rate : 24 %
Source :  Internet  and Wikipedia

CRR Rate : Cash reserve Ratio (CRR) is the amount of funds that the banks have to keep with RBI. If RBI decides to increase the percent of this, the available amount with the banks comes down. RBI is using this method (increase of CRR rate), to drain out the excessive money from the banks.                                             Current  CRR Rate :  6 %

Reverse Repo Rate

 Reverse Repo Rate : This is exact opposite of Repo rate. Reverse Repo rate is the rate at which Reserve Bank of India (RBI) borrows money from banks. RBI uses this tool when it feels there is too much money floating in the banking system. Banks are always happy to lend money to RBI since their money is in safe hands with a good interest. An increase in Reverse repo rate can cause the banks to transfer more funds to RBI due to this attractive interest rates.                                            Current Repo Rate : 7 %

Repo Rate

Repo Rate : Repo rate is the rate at which our banks borrow rupees from RBI. Whenever the banks have any shortage of funds they can borrow it from RBI. A reduction in the repo rate will help banks to get money at a cheaper rate. When the repo rate increases, borrowing from RBI becomes more expensive.               Current Repo Rate : 8 %