Requirement for CRR

Requirement for CRR

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The primary objective of the cash reserve ratio is to provide some form of liquid cash against the money of depositors so that the bank does not run out of cash to meet their needs. This is subject to additional regulations and rules. The interest we pay on the loans we take out from banks helps banks make money. In a perfect world, banks would want to lend as much money as possible to increase profits.

However, this is problematic because banks will struggle to meet requirements in the unlikely event of a sudden customer withdrawal rush if they lend out the majority of their funds. The CRR or, the cash reserve ratio serves additional purposes. Regulating the economy's interest rates and liquidity is one among them. Keep in mind that CRR is only one of the tools, and it cannot control the liquidity situation on its own. The statutory liquidity ratio (SLR), repo rate, reverse repo rate, open market operations, and a few other tools are additional options.

A liquidity crunch could occur for a variety of domestic or international reasons. In response to changing economic conditions, CRR rates have been lowered or raised repeatedly. The fact that banks do not earn interest on the money they park with the RBI under CRR is an important point to keep in mind. RBI frequently uses the Cash Reserve Ratio (CRR) as a tool. The country's economy's liquidity and inflation/deflation are controlled by it. The CRR is subject to change at any time by RBI.

Interpretation of the CRR - If the CRR is excessive; it indicates that banks are required to deposit more money with the RBI than they do with themselves. As a result, they are unable to lend as much money or meet depositor requirements. In the end, this suggests that the economy lacks liquidity. Also true is the opposite. The RBI is attempting to inject liquidity into the economy by leaving more money in the hands of banks if CRR restrictions are being relaxed. It is safe to assume that CRR does have an effect on interest rates because the economy's money supply has a direct correlation with interest rates.