Cash Reserve Ratio

The cash reserve ratio (CRR) is the share of a bank's net demand and time liabilities that must be maintained as a cash balance with the Reserve Bank of India (RBI). Because this money cannot ordinarily be used for lending or investment, changing CRR directly alters banks' usable funds.

How CRR changes bank liquidity

CRR acts as a broad-based instrument for managing liquidity across the banking system.

• An increase in CRR transfers a larger portion of bank funds into mandatory RBI balances, reducing lendable resources and tightening liquidity.
• A reduction in CRR releases funds to banks, increasing the liquidity available for loans, investments and settlement needs.
• The liquidity impact depends on each bank's net demand and time liabilities, since the required reserve is calculated as a proportion of that base.

Effect on credit and money creation

By changing banks' capacity to extend credit, CRR can influence monetary conditions in the wider economy.

• A higher CRR generally restrains deposit and credit creation, so it tends to reduce the money multiplier, other things remaining equal.
• A lower CRR expands potential lending capacity, but it does not guarantee additional credit because loan demand, bank capital, risk perception and asset quality also matter.
• Unlike an interest-rate change, CRR primarily operates by altering the quantity of primary liquidity available to banks.

Legal and policy basis

For scheduled banks, the requirement to maintain cash reserves with RBI is provided under Section 42 of the Reserve Bank of India Act, 1934. RBI varies CRR as part of its monetary and liquidity management framework.

• RBI does not pay interest on balances maintained by banks to meet the prescribed CRR requirement.
• A CRR change affects banks collectively and remains effective until the prescribed ratio is changed.