The recent Cash Reserve Ratio (CRR) cut by the Reserve Bank of India (RBI) has become a key talking point, drawing attention to its boarder macroeconomic implications and its impact on everyday finances. So, what is CRR, and how does its reduction affect you? Let us take a closer look at what the CRR has to reveal and why the changes were made!
What was the latest update on the CRR?
On 6th Dec 2024, the RBI’s Monetary Policy Committee announced a CRR cut of 50 basis points (bps) from 4.5% to 4%.
What does the CRR cut do to the Indian economy?
The CRR cut will introduce about ₹1.16 lakh crore into the banking system, increasing liquidity. It will be implemented in two phases, each with 25 basis points, on 14th and 28th Dec 2024.
What is CRR?
The CRR is the percentage of funds that every commercial bank must park with the RBI. For instance, if the CRR is 4.5%, for every ₹100, ₹4.5 must be kept with the RBI. The remaining ₹95.5 can be used for lending other banking activities.
A higher CRR reduces liquidity in the banking system to control inflation, while a lower CRR increases liquidity, improves credit growth and boosts the economy.
CRR before, during and after the pandemic
Before the COVID-19 pandemic, the CRR stood at 4%. During the initial wave of the pandemic, as the economy suffered, the CRR was reduced to 3% to enhance liquidity and support economic activity. Later, in 2022, it was increased to 4.5% to contain inflationary pressures.
Now, it has been reduced back to 4%, returning to its historic pre-pandemic level.
Why did the RBI go for a CRR cut now?
The CRR cut was aimed at enhancing the lending capacity, fostering credit growth, which can eventually contribute to economic growth in the country.
But why is it necessary now?
- The Q2 quarter from July to September marked a slowdown in GDP, affecting credit growth and economic activity in the country.
- Recently, the liquidity deficit has widened and is expected to grow substantially due to advanced tax and GST outflows. A reduction in CRR may give some relief and narrow this gap.
- A higher demand was imposed on deposits to fund loan requirements, increasing the deposit costs for banks.
- RBI’s actions in managing the foreign exchange market to support and stabilise the rupee have also tightened liquidity conditions.
- Key funding sources for the government, such as the small savings schemes (PPF, SSY, etc.), have declined this year. It has forced the government to borrow more money, which further tightens liquidity.
Repo Rate: Another crucial monetary tool
Although CRR was reduced, the key lending rate, the repo rate remained unchanged. It is maintained at 6.5% for the 11th consecutive time. This neutral stance was targeted towards balancing inflation and economic growth.
Read More: What is MCLR (Marginal Cost of Funds-based Lending Rate) in banking?
Wrapping Up
The CRR cut transitions through the RBI’s effort to boost liquidity and improve economic activity. As a result of this move, loans might become more accessible and affordable due to reduced borrowing costs.
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Disclaimer: This article is for information purpose only. The views expressed in this article are personal and do not necessarily constitute the views of Axis Bank Ltd. and its employees. Axis Bank Ltd. and/or the author shall not be responsible for any direct / indirect loss or liability incurred by the reader for taking any financial decisions based on the contents and information. Please consult your financial advisor before making any financial decision.
