There is no surprise in Reserve Bank of India’s decision to cut banks’ cash reserve ratio (CRR) or the portion of deposits that commercial banks need to keep with the central bank a week ahead of its semi-quarterly review of monetary policy, slated for 15 March.
A 75 basis points (BPs) CRR cut will infuse Rs48,000 crore liquidity in the system and bring down the CRR level to 4.75 bps, just about 25 bps above the lowest CRR ever prescribed by RBI. One bps is a hundredth of a percentage point. Under norms, CRR can be pared to any level. This means, if the cash crunch continues – and it will continue because of the government’s likely high borrowing programme in next fiscal too to bridge its fiscal deficit – there will be more cuts in CRR. The gross government borrowing programme in the current fiscal has been Rs5.1 trillion. It may go up marginally in fiscal 2013.
What was the hurry for the cut? Couldn’t RBI have waited till 15 March when it announces its mid-quarter policy review? Well it’s more for a technical reason. Any CRR cut takes effect from the beginning of a reporting fortnight. The so-called reporting fortnight ends on the second and fourth Fridays every month and banks need to keep their CRR on basis of this.
The first fortnight of March ends on 9 March and the new CRR level takes effect from 10 March. Had RBI not done so, the next effective date would have been 24 March – after the second reporting Friday in March. By that time, the liquidity crunch in the system would have been very acute as Indian firms will pay their quarterly advance income tax in mid-March and this will lead to an outflow of around Rs60,000 crore. The systemic liquidity crunch which hit a historic high – Rs1,92 trillion one day last week – had come down this week but it will not remain so after the outflow of advance tax.
The other option before RBI would have been to announce the CRR cut on 15 March but with retrospective effect (from 10 March). It has done such announcements rarely in the past.
Will the cut in CRR bring down interest rates? No. Banks will not rush to cut rates ahead of the end of fiscal year. They could do so after RBI cuts its policy rate. That can happen in April if the oil price stabilizes and inflation comes down.