The cash reserve ratio is a specified minimum percentage of the total deposits made by customers that commercial banks need to hold as reserves. The CRR is mandated by the RBI, and this percentage of deposits must either be deposited by the banks with the RBI, or should be held as cash.
The CRR is a percentage of the bank’s Net Demand and Time Liabilities (NDTL). These net demand deposits are accounts that can be withdrawn on demand by the account holder. Some common examples of net demand and time liabilities include the funds lying in savings accounts, current accounts and fixed deposits.
There are several reasons for central banks to use the CRR as a monetary policy tool. Let’s have a look
By requiring banks to hold a certain percentage of their deposits in reserve, the central bank can reduce the amount that is available for lending. This, in turn, can help curb inflation when needed. For example, if the central bank raises the CRR, it means that banks will have to hold a larger portion of their deposits as a reserve. As a result, the amount of money they have available to lend goes down. This then reduces the supply of money in the economy and helps curb inflationary pressures.
The CRR helps to ensure that banks have sufficient reserves and liquid assets on hand to meet the demand for withdrawals by depositors. So, if a large number of depositors try to withdraw their money at the same time, the bank needs to have enough cash or easily-convertible assets on hand to meet this demand. So, having a cash reserve ratio in place will essentially help stabilize the financial system.
The CRR can also be used to manage the level of liquidity in the economy. By adjusting the amount of money that is available for lending, this becomes possible. Also, since the RBI requires banks to hold a certain percentage of their deposits in reserve, the central bank can help to ensure that banks have sufficient liquid assets to meet the demand for withdrawals, even in times of financial stress.
The cash reserve ratio (CRR) can be significant for depositors in several ways. Here is a closer look -
The CRR can also affect the stability and safety of the banking system. As a depositor, it is essential to choose a bank that meets its cash reserve, so you need not worry about the possibility of your deposits not being repaid on time. On the other hand, if a bank is having trouble maintaining its cash reserve as per the CRR mandated by the Reserve Bank of India, that may be a red flag for depositors.
If the central bank increases the CRR, it means that banks will have to hold a larger portion of their deposits in reserve. This consequently reduces the amount of money they have available to lend. In order to compensate for this reduction in lending, banks may need to offer higher interest rates on deposits in order to attract the funds they need to meet their CRR requirement.
On the other hand, if the central bank decreases the CRR, it means that banks will have more money available to lend. This may then allow them to offer lower interest rates on deposits.
Central banks use CRR to manage the supply of money in an economy, and to help ensure the stability of the financial system. As a depositor, it is advisable for you to choose banks that meet the minimum CRR requirement. This will ensure that the bank is capable of paying back your deposits when it is time to withdraw the funds.
The cash reserve ratio is the total percentage of their deposits that banks must have in the form of cash, as mandated by the Reserve Bank of India. This percentage of funds must be held as cash or deposited by the banks with the RBI.
