The Reserve Bank of India (RBI) on Friday reduced the Cash Reserve Ratio (CRR) by 75 basis points from 5.5 per cent to 4.75 per cent with effect from March 10.
“This reduction will inject around Rs.48,000 crore of primary liquidity into the banking system…….to ensure smooth flow of credit to productive sectors of the economy,” said the RBI.
CRR is the percentage of deposits that commercial banks must keep with the central bank.
The markets were expecting a reduction in CRR as the banking system was experiencing a liquidity tightness in the recent days. However, the reduction in CRR at this point surprised markets as the RBI was expected to provide its assessment of the macroeconomic situation in its fourth Mid-Quarter Review on March 15. Moreover, this cut was sharper than expected.
Earlier, in its third quarter review in January last, the RBI reduced the CRR by 50 basis points from 6 per cent injecting a liquidity of Rs.31,500 crore into the banking system to mitigate the tight liquidity conditions, which was the first move in the CRR since it was increased to 6 per cent in April 2010.
The RBI's action now is apart of its continued efforts to provide liquidity through open market operations (OMOs), injecting primary liquidity of over Rs.1,245,00 crore this financial year so far, of which Rs.52,800 crore was injected after the CRR cut in the third quarter review.
Despite these measures (OMOs as well as the earlier cut of 50 basis points in CRR), the RBI said that “the liquidity deficit has remained large on account of both structural and frictional factors.”
This was reflected in the net average borrowing rising from an average of Rs.1,292,00 crore in January 2012 to Rs.1,405,00 crore in February. Net injection of liquidity through other measures rose to a peak of Rs.1,917,00 crore on March 1, 2012, though, subsequently, it declined to Rs.1,273,00 crore on March 7, 2012.
Further, the liquidity deficit is expected to increase significantly during the second week of March due to advance tax outflows and the usual frontloading of cash balances by banks with the Reserve Bank. Thus, “the overall deficit in the system persists above the comfort level of the Reserve Bank.”
Bankers welcomed the RBI's move on Friday. “CRR cut was expected. It was a pleasant measure and will ensure adequate funds for lending to productive sectors. The release of about Rs.48,000 crore will also marginally reduce pressure on margins. Overall, a huge positive for the economy and to the banking sector. Sentiment will be far more positive,” said M. D. Mallya, Chairman and Managing Director, Bank of Baroda.
“The 75 basis point CRR cut is a proactive step by the RBI to inject permanent liquidity into the system. This is expected to bring down the high level of overnight borrowing by banks from the RBI. This would also ensure continued smooth flow of credit in the corporate and retail sectors,” said Chanda Kochhar, Managing Director & CEO, ICICI Bank.