Question

Explain:

Cash reserve ratio (CRR) affects the lending capacity of banks.

Answer 1

(a) Cash Reserve Ratio is one of the weapon of credit control used by Central Bank.
(b) By law commercial banks have to maintain a certain amount of cash with Central Bank as reserve against their demand and time deposits at all point of time.
(c) This amount cannot be used by the commercial banks for lending activities.
(d) Therefore, the amount available for lending gets reduced to the extent of cash reserve ratio.
(e) This cash reserve ratio is changed by Central Bank to regulate credit creation by the commercial banks.
(f) It directly affects the lending capacity of banks and the rate of interest charged by banks.
(g) An increase in cash reserve ratio leads to contraction of credit and lending capacity of commercial banks.
(h) A decrease in cash reserve ratio leads to expansion of credit and lending.