The CRR continues to be at 4.5% which means that RBI is still holding deposits of around Rs3.06 lakhs crore. While CRR may not be a national waste, it is indeed a drain on the resources of banks which is obtained from public

Vivek Sharma

The controversy over the Cash Reserve Ratio (CRR) does not seem to settle down. Not long back when, in the month of August2012 SBI (State Bank of India) chairman Pratip Chaudhuri raised the question of abolition of CRR, the response from deputy governor of the RBI (Reserve Bank of India) KC Chakrabarty was as follows: “If you are not able to do business in the regulatory system in which you are functioning… you will have to find out something else… where you can do business.”  This was the first instance of regulator and the regulated sharing thoughts on CRR in a rather acrimonious way. After the incident, it was thought the controversy was over. But that was not to be. Once again Mr Chaudhuri reiterated his previous statement and probably in more emphatic but crude way and mentioned that CRR was a national waste. Is CRR is tool for monetary control or just a means for the regulator to earn interest-free deposits from banks? Is CRR an effective tool to control inflation and manage availability of credit with banks? Let us try to investigate it.

But before moving ahead let us look at some hard facts. These facts will help analyze the key question of CRR and its relevance. Though the RBI is a  regulator and is not in a profit making business, it makes huge surplus every year and its Profit and Loss Account shows that in 2011-12 it made a surplus of Rs160 billion (Refer RBI P&L below). This surplus in layman’s term is called as profit and is shown as profit in books of companies.

Now let us try to understand the break up of these surpluses. The surplus of Rs160 billion is made from foreign exchange operations, liquidity adjustment facility (LAF) and interest earned on deposits. RBI’s annual report 2011-12 says,” The Reserve Bank’s income comprises earnings from foreign sources and earnings from domestic sources, with the major portion being contributed by interest receipts, complemented by relatively small amounts of income from other sources, viz., discount, exchange, commission, etc.” It further goes on to add, “The gross income of the Reserve Bank during the year 2011-12 was  Rs531.76 billion as against  Rs370.70 billion in the year 2010-11, registering an increase of 43.4%. The significant increase in income from domestic sources offset the decline in income from foreign sources.”

Let us try to investigate these profit figures by looking at balance sheet of RBI. The balance sheet has two components- 1) Issue Department and 2) Banking Department. The balance sheet of the Banking Department is shown below.
 

Read: Cash Reserve Ratio: A non-performing asset for banks?
 

Out of total balance sheet size of RBI, around one-third of the liabilities come from deposits made by banks to RBI. These bank deposits are invested by the RBI and good money is earned on these deposits. Why the term good? The reason is very obvious and that is banks receive no interest on CRR deposits. Last time when the RBI decided to cut CRR by 25 basis points a liquidity injection of around Rs17,500 crore was done in the economy. The CRR still continues to be at 4.5% which means that RBI is still holding deposits of around Rs3.06 lakhs crore.  A conservative return of 5% on this will mean that RBI earns around Rs15,000 crore from these deposits which means Rs50 billion.
 

You may also like to read: CRR row: RBI's Subbarao doesn't see end in sight during his term!
 

So if RBI is earning interest from CRR deposits, who is paying for this? The answer is very obvious. It is the “Aam Aadmi”. When we make deposits in bank, banks are asked to put 4.5% of the deposits to RBI as CRR on which banks earn nothing. Obviously while banks are not able to pass on higher rate of interest on these deposits to us, they also charge higher rate of interest from us on money borrowed from banks. So the system of CRR which gives no interest to banks on these deposits makes banks suffer financial loss. Let the CRR be an effective tool for monetary policy, but what is the harm in passing some of the earnings made by RBI on these CRR deposits? Else let us abolish this system. After all, there is no harm in regulator learning from regulated ones. While CRR may not be a national waste, it is indeed a drain on the resources of banks which is obtained from public.
 

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(Vivek Sharma has worked for 17 years in the stock market, debt market and banking. He is a post graduate in Economics and MBA in Finance. He writes on personal finance and economics and is invited as an expert on personal finance shows.)