RBI monetary policy outcome: What does a 50 bps cut in CRR mean for the economy? Explained

In its bi-monthly monetary policy announcement on Friday, the Reserve Bank of India (RBI) introduced several measures to address the prevailing economic challenges. Among these, a key decision was reducing the Cash Reserve Ratio (CRR) from 4.5% to 4%. This reduction is expected to alleviate the liquidity crunch in the economy and provide banks with increased funds for lending and investment.

What does a cut in CRR mean for the economy?

As the name suggests, CRR mandates that banks keep a certain percentage of total deposits in cash, which they are not allowed to use for lending or investment purposes. The CRR is an effective tool used by central banks to adjust the liquidity of the economy without changing interest rates, which has a much wider impact.

The tweaking of CRR is used to control inflation by hiking the ratio and vice versa for injecting money into the system. Lower inflation helps keep it in the range, which is more effective for economic growth.

Secondly, it improves banks' lending capabilities, as the cut in CRR releases larger funds from deposits for lending and investment purposes.

Impact of the latest CRR cut on the economy

The 50 bps point cut in the CRR in the latest policy announcement is expected to inject ₹1.16 lakh crore into the economy. The surplus liquidity can now be used for lending and investment purposes, aiding higher economic growth.

The demand for liquidity injection gathered momentum after the Q2FY25 GDP growth came in lower than expected at 5.4%. In addition, the sluggish earnings growth for the September quarter showed a dire need for liquidity injection by the RBI.

Key highlights of the RBI meeting

Apart from tweaking the cash reserve ratio, the central bank maintained the status quo on the repo rate, keeping it unchanged at 6.5%.

Secondly, the RBI maintained its overall stance as neutral as the central bank, which remains watchful of inflation numbers. Lastly, the GDP growth forecast for FY25 is lowered sharply to 6.6% from above 7% earlier, and the inflation target has increased by 30 basis points to 4.8% from 4.5% earlier.