What is the Cash Reserve Ratio?
The CRR full form is the cash reserve ratio. The cash reserve ratio meaning is a minimum percentage of customer deposits that a commercial bank must retain in cash or as reserves with the Reserve Bank of India (RBI).
RBI keeps the Cash Reserve Ratio amount in cash and cash equivalents. It aims to ensure that banks don’t run out of cash and have enough funds to pay depositors.
Cash Reserve Ratio refers to the proportion of a bank’s deposits required to be held as reserves. This amount of cash must be maintained in the bank vault or remitted to the Reserve Bank of India (RBI). This reserve money cannot be used for any economic or commercial purpose. The banks would be unable to earn interest on this large amount because it is held in reserve.
CRR is an important monetary policy tool used to control the economy’s money. This rule is set up by the Reserve Bank of almost all countries.
According to RBI regulations, every commercial bank must maintain a minimum amount of cash deposits, known as the CRR rate.
The Cash Reserve Ratio Rate is calculated as a percentage of each bank’s net demands and time liabilities. The net demands and time liability are the total of the savings, current and fixed deposit accounts.
Why do banks need to keep CRR?
RBI continuously works and monitors the entire economy’s cash flow. The RBI has a variety of monetary instruments to regulate the economy in various ways. One of these tools is the CRR rate, which stands for the cash reserve ratio. The Reserve Bank of India (RBI) requires every commercial bank to adhere to the defined CRR rules issued to each bank.
Once the CRR rate for RBI deposits is high, financial liquidity is low. The lower the Reserve Bank of India’s Cash Reserve Ratio, the better the economy’s overall liquidity.
- Global liquidity is effectively managed and administered when all banks maintain the required CRR rate to the benefit of each bank.
- Maintaining the stipulated Cash Reserve ratio enables banks to hold the appropriate quantity of funds and never fall short when their depositors require them for personal requirements.
The benefits of CRR
CRR assists in managing the overall liquidity of the economy by facilitating the circulation of money. The CRR rate is established by the amount of money available on the financial market. When the money supply gets higher, the RBI immediately raises the CRR to get rid of the extra money. Similarly, if there is a liquidity deficit or a decline in the monetary supply, the RBI will reduce the CRR rate to release more money into the market. Let’s look at more CRR benefits.
- It assists commercial banks in establishing and maintaining their solvency position.
- As a result, all commercial banks have a reliable and consistent liquidity system.
- The CRR rate helps the RBI oversee and coordinate bank credit, ensuring stable cash and credit supply in the economy.
- When RBI reduces CRR, commercial banks can issue additional advances to borrowers, increasing public cash flow.
- As market interest rates decrease significantly, CRR steps in to help improve the situation by soaking up excess liquidity. This helps improve the declining rate.
- Implementing the cash reserve ratio is more effective than other monetary instruments such as Markets Stabilization Plan bonds primarily because MSS bonds require a great deal of time to govern the country’s liquidity system.
- During times of rupee surplus, CRR plays a positive function in alleviating the financial climate.
The significance of the Cash Reserve Ratio
The Cash Reserve Ratio set by banks is essential for both banks and depositors.
The CRR rate is determined by the Reserve Bank of India (RBI) based on how much money is available in the financial sector. The RBI will increase the capital reserve ratio rate in response to an increase in money supply and vice versa. This is accomplished to get rid of any extra money and let cash flow through the market. Keeping the cash reserve ratio consistent comes with several benefits, including the following
- It maintains the stability and maintenance of the liquidity system in all commercial banks
- This can assist in stabilising the declining rate by absorbing money as market interest rates drop significantly.
- When a bank maintains its CRR, it may establish and sustain its solvency position.
- If the RBI decreases the CRR percentages, the bank can issue additional advances to borrowers.
- The RBI uses the CRR rate to regulate and coordinate bank credit to keep the economy working smoothly.
What are the differences between CRR and SLR?
CRR and SLR are vital factors of monetary policy. But some elements make them different. The following table provides an outline of the differences
| Cash Reserve Ratio (CRR) | Statutory Liquidity Ratio (SLR) |
| The proportion of liquid funds a bank must maintain with the RBI. | The SLR only considers the time and demand liabilities ratio to liquid assets. |
| CRR mandates that financial institutions maintain only cash reserves at the Reserve Bank of India. | SLR requires banks to maintain liquid assets, such as cash, government securities, and gold. |
| Banks do not receive interest on CRR funds. | Banks gain profits on SLR deposits. |
| Through CRR, the Central Bank oversees the liquidity of the Banking system. | The SLR is a tool for managing the bank’s leverage to extend credit. It ensures banks’ financial stability. |
| The Reserve Bank of India (RBI) maintains the cash reserves under the CRR system. | SLR comprises the banks holding the securities, which they must keep as liquid assets. |
| The CRR controls the country’s liquidity. | SLR supervises the country’s credit expansion. |
| Facilitates the regulation of liquidity | Regulates Economic Credit Expansion |
Conclusion
The Cash Reserve Ratio is a part of the Reserve Bank of India’s (RBI) monetary policy. It helps reduce liquidity risk and manage the money supply. If the CRR rate increases, banks will find it more difficult to offer loans, resulting in a rise in interest rates. When the RBI has to pump cash into the market, it reduces the CRR rate, which helps banks lend to companies and industries for investment. A lower CRR also increases the economic growth rate.
