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Credit Policy: CRR cut likely despite cash overhang

BS Banking Bureau in Mumbai

The cash reserve ratio of commercial banks at 5 per cent today is at its 26-year low.

And yet bankers expect the Reserve Bank of India to cut it further and bring it down to the mandatory 3 per cent level - as stipulated by the RBI Act 1934 - in phases.

The last time, the CRR was pegged at 5 per cent was in 1976. Since then, there had been an upward movement for the direct cash impounding instrument touching the peak of 15 per cent between 1989 and 1992 (when stock scam hit the system) and again in 1994 when RBI tightened its monetary policy.

From 1995 onwards, the RBI has been progressively easing the CRR except for in 1997 and 1998 when it jacked up the requirement to stall spillover of excess rupee liquidity into the forex market and ward off any possible impact of the southeast Asian crisis in Indian markets.

The downward movement of the CRR is particularly sharp in the last one and a half years. In fact, between February 2001 and June this year, the RBI cut the CRR by as many as six times - ranging between 25 basis points and 50 basis points - to bring it down from 8.25 per cent to 5 per cent.

Every one percentage point cut in CRR infuses around Rs 10,000 crore (Rs 100 billion) worth of liquidity in the system. In other words, paring the CRR from the present level of 5 per cent to 7 per cent would amount to Rs 20,000 crore (Rs 200 billion) worth of liquidity infusion in the system.

Considering the fact that there is a surfeit of liquidity (the average daily liquidity in the system is around Rs 20,000 crore now), the RBI can only cut the CRR in phases spread over a period of time.

"Till recently, bankers used to talk about a roadmap for CRR cuts. The roadmap has already been laid and it is possibly a matter of a year now before the CRR comes down to 3 per cent," said an analyst.

A cut in CRR would add to the bottomline of the banks as they do not earn any interest on CRR up to 3 per cent and beyond 3 per cent (up to 5 per cent) the interest rate is 6 per cent. Once the money is unlocked, banks can deploy that in a more profitable way, provided there is demand for credit.

Banks would also like the RBI to cut the statutory liquidity ratio, which is currently pegged at 25 per cent. But to do this, the government will need to amend the Banking Regulation Act of 1995, which stipulates the minimum SLR requirement at 25 per cent.

However, most of the banks have SLR holdings of close to 40 per cent against the mandatory 25 per cent. In fact, the excess SLR holding of the banking system is higher than the annual gross borrowing of the government.

With the signs of credit offtake still faint, there is no end to banks chase of government papers. They will liquidate their holding of gilts only when the demand for credit picks up.

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