Cash Reserve Ratio (CRR)

The Cash Reserve Ratio (CRR) mandates commercial banks to maintain a minimum percentage of their total deposits, known as Net Demand and Time Liabilities (NDTL), as cash reserves with the RBI. Essentially, CRR represents the portion of cash deposits held by a bank at the RBI. This regulation is outlined in Section 42 of the Reserve Bank of India Act, 1934.

What is Cash Reserve Ratio?

• The Cash Reserve Ratio (CRR) mandates commercial banks to uphold a minimum percentage of their total deposits, specifically Net Demand and Time Liabilities (NDTL), in the form of cash reserves with the RBI. 
• This requirement is applicable to all Scheduled commercial banks. 
• For example, if Bank A receives 100 Crores in deposits and the CRR stands at 3%, it must deposit 3 crores in cash with the RBI, leaving 97 crores for its operations. 
• When the central bank increases the CRR, the available money for banks diminishes, and conversely when it decreases, the accessible funds rise. 
• These cash reserves must be stored either in the bank's vault or with the RBI. 
• Initially governed by Section 42 of the RBI Act 1949, the CRR range was set between 3%-15%, later modified in 2007 to range from 0-15%, eliminating the lower limit. 
• As of December 2021, the CRR is held steady at 3%.

Note: Incremental CRR

• This measure is implemented by banks in response to a sudden influx of deposits. Such a scenario could prompt banks to increase lending and inject more money into the economy, potentially fueling inflation. 
• Consequently, a distinct Cash Reserve Ratio (CRR) is applied to deposits from a specified date to counteract excessive liquidity. 
• This is achieved through the mechanism of Incremental CRR, wherein the RBI absorbs surplus funds. 
• Following Demonetisation, the RBI enforced a 100% CRR requirement for deposits made between September 16 and November 11 in Scheduled Commercial Banks.

Objectives of Cash Reserve Ratio

The Cash Reserve Ratio fulfills dual roles:

• It provides a guarantee of safety for the bank's deposits by holding a portion of them with the Reserve Bank of India, ensuring ease of refund for clients.
• CRR also contributes to inflation control. In times of significant inflation, the RBI increases the CRR, compelling banks to bolster their reserve funds, thus curbing their lending capacity.

Difference between SLR and CRR

Conclusion

CRR serves as a short-term liquidity management instrument, in contrast to SLR, which operates as a long-term tool. CRR functions akin to insurance in the event of a bank failure, providing a resource to repay stakeholders. Moreover, it is utilized to inject surplus liquidity into the markets during economic slowdowns.

PYQ for Prelims

Question: When the Reserve Bank of India announces an increase of the Cash Reserve Ratio, what does it mean? (UPSC 2010)

(a) The commercial banks will have less money to lend

(b) The Reserve Bank of India have less money to lend

(c) The Union Government will have less money to lend

(d) The commercial banks will have more money to lend

Answer: (a)

Question: The money multiplier in an economy increases with which one of the following?

(a) Increase in the cash reserve ratio

(b) Increase in the banking habit of the population

(c) Increase in the statutory liquidity ratio

(d) Increase in the population of the country

Answer: (c)