Cash Reserve Ratio (CRR) in Banking – Meaning and Formula

Every time you deposit money in a bank, you trust that it will be there when you need it. But what if banks did not have enough reserves to meet withdrawals? What if they lent out too much, leaving only a little reserve to cover emergencies? Problematic right?

To prevent such chaos, the central bank enforces a rule that determines how much money the banks have to keep with the RBI as a buffer against any liquidity crisis. This is the Cash Reserve Ratio rule, which not only protects your money but also has an impact on the economy. 

But how does this silent guardian work? Why do governments keep changing the CRR rate? And how does CCR impact the economy? In this article, let us understand all these concepts under the Cash Reserve Ratio. 

What Is CRR (Cash Reserve Ratio)?

CRR full form is Cash Reserve Ratio, which refers to the portion of a bank’s total deposits that must be maintained with the Reserve Bank of India (RBI) in the form of liquid cash. This portion of the money is maintained with the RBI, as per the percentage mandated by it. 

Furthermore, the banks do not yield any income in the form of interest upon this liquid cash, and neither will the banks will be able to use this cash for the purpose of investing or lending. 

Why Does the Cash Reserve Ratio Matter – Objectives and Importance

The Cash Reserve Ratio is more than just a regulatory requirement; but is a powerful tool used by central banks to maintain economic balance and financial discipline in the banking system. So, let’s break down the key objectives and importance to understand why this small percentage plays such a big role in our financial system.

1) Monetary policy tool:

CRR gives the Central Bank a smart way to regulate how much money is circulating. By tweaking the ratio, the RBI can either induce more liquidity into the system or pull it back to keep things balanced in the economy.

2) Ensures liquidity:

CRR mandates banks to maintain a certain level of liquid cash with the RBI, ensuring they will always have funds to meet customer withdrawals, like a built-in buffer for financial reliability.

3) Protects deposits:

Since the RBI holds a portion of the banks’ deposits as per CRR, that part of the money remains secure and cannot be used for lending and investing purposes. As a result, a portion of the total deposits is always safe and protected.

4) Inflation control:

By increasing CRR, the RBI can restrict the lending capacity of banks, reducing money circulation and thereby helping to control different types of inflation during overheated economic conditions.

What Is the Current CRR Rate in India?

As we already know, the Cash Reserve Ratio is the percentage of a bank’s total deposits that must be held with the RBI as liquid cash. As of April 2, 2025, the current CRR rate in India stands at 4.0%.

Let us look at the timeline of changes in the Cash Reserve Ratio from the past 5 years with the help of the table below:

CRR Formula and Calculation

Banks are required to calculate the total cash reserve they must set aside with the RBI from the total deposits they receive. This reserve amount can be determined using the CRR formula given below:

Cash Reserve = (CRR Percentage x NDTL) 

• Here, the CRR percentage is the mandated percentage set by the Reserve Bank of India. 

• The NDTL is the Net Demand and Time Liabilities, which refers to the total money a bank owes to customers through demand and time deposits, minus certain exemptions like inter-bank deposits. 

Let us understand this with the help of a simple example. For instance, if the CRR percentage is 4% and if the NDTL is Rs 20,000 crores, the cash reserve that the bank must keep with the RBI is:

Cash Reserve = (CRR Percentage x NDTL) = (4% x 20,000) = Rs 800 crores.

Why Does CRR Change Regularly?

The Cash Reserve Ratio is a regulatory tool used by the RBI to control liquidity in the banks. It mandates that banks keep a certain percentage of their total deposits as cash with the Central Bank of India. This not only acts as a safeguard for depositors but also helps the RBI manage inflation, regulate the money supply, and maintain financial stability. 

When inflation is high due to excess money in circulation, the RBI may increase the CRR to reduce the lending capacity of banks, slowing down spending and borrowing. Conversely, during periods of slow economic activity, the RBI lowers the CRR to inject more liquidity into the system, enabling banks to lend more. In this way, CRR acts as both a safeguard and a powerful economic stabilizer due to which the CRR keeps changing regularly. 

Impact of CRR on the Economy

Have you ever wondered how a single move by the Reserve Bank of India can affect everything from your home loan interest to how much the bank can lend to the public? That is the kind of power the Cash Reserve Ratio holds. Here’s how CRR plays its part in the bigger economic picture. 

1) Inflation: 

When inflation rises due to too much money flowing into the economy, the RBI may increase the CRR. This will put banks in a position to hold more money with the Reserve Bank of India and limit the amount they can lend. As a result, spending and investing are reduced, helping to bring down inflation.

2) Liquidity:

The Reserve Bank of India uses CRR as a key liquidity management tool by ensuring that there isn’t either too much or too little money in circulation. A higher CRR will absorb excess liquidity from the system, while a lower CRR will release more funds into the economy, depending on the economic need.

3) Interest rates: 

Changes in the Cash Reserve Ratio (CRR) will indirectly affect the lending interest rates that banks offer. A higher CRR means that banks have less money available to lend, which typically results in increased lending rates. Conversely, when the CRR is lowered, banks have more funds at their disposal, making them more willing to lend at competitive interest rates, thereby encouraging credit growth.

4) Loans and profitability:

Banks earn a large portion of their income through lending, i.e., by charging interest on the loans that they give out. So, when the CRR is increased, banks are required to keep more money with the RBI, which does not earn them any interest and lowers the money that is available for lending. As a result, banks miss out on potential income that they could have earned from interest, as well as reduce the number of loans that they can offer to individuals and businesses. 

Challenges and Criticisms of the Cash Reserve Ratio

While the Cash Reserve Ratio is a powerful tool in the RBI’s monetary policy toolkit, it also comes with challenges and criticisms it faces. This is because maintaining a high CRR carries hidden costs and operational challenges for banks and the economy. Let us look at some of them below. 

• Lending capacity: When the CRR is high, a larger portion of the banks’ funds is locked away with the RBI. This restricts the amount of money that is available for lending, which directly impacts the spending and investment patterns of individuals and businesses.

• Idle funds: The Cash Reserve Ratio’s amount becomes idle capital, as banks cannot utilize CRR funds for investments or interest-earning assets. Since the cash reserve is held by the RBI, it is considered non-productive capital. This leads to an opportunity cost, as banks miss out on potential returns they could have earned by using those funds elsewhere. 

• Profitability: With limited funds to lend and no returns on the CRR balance, the banks may face a contraction in their profitability. This can potentially lead to an increase in loan interest rates to recover costs, which might reduce credit demand and slow down economic activities. 

CRR vs SLR – Understanding the Differences Between CRR and SLR

You have probably heard the terms Cash Reserve Ratio (CRR) and Statutory Liquidity Ratio (SLR) whenever there’s news about RBI policies. Though they sound similar and serve related purposes, they operate in different ways. Now, let us break down how these monetary tools work and look at the difference between CRR and SLR below.

Conclusion

The Cash Reserve Ratio might sound like banking jargon, but it is a silent force working in the background to keep your money safe, inflation in check, and the economy stable. As an integral part of monetary policy, CRR continues to influence lending rates, economic growth, and financial discipline in the banking sector. In addition to all the purposes that CRR serves, it also faces criticism and certain operational limitations in terms of maintaining a high Cash Reserve Ratio. 

Therefore, understanding the concept of CRR helps you to know how even a small regulatory percentage can have a big impact on the broader economy. So, the next time you hear about a CRR hike or cut, you will know that it is not just a number but a move that affects everything from your loan interest rates to how much money flows through the economy!