Time to rethink CRR-SLR shackles

If India is serious about unlocking its full economic potential, becoming a developed nation, and realising the goals of Viksit Bharat and Atmanirbhar Bharat, it must confront a question: are yesterday’s regulations holding back today’s growth? Are certain archaic regulatory provisions constraining liquidity, restricting credit flow, hindering economic growth, and undermining the global competitiveness of India’s banking system?

For decades, the fractional reserve system—anchored in the cash reserve ratio (CRR) and statutory liquidity ratio (SLR)—has been the backbone of Indian banking. These norms helped the system avoid major collapses, including during the global financial crisis in 2008, when Indian banks remained largely unscathed. By ensuring that banks parked a portion of their deposits with the Reserve Bank of India and invested heavily in government securities, CRR and SLR created a strong safety net.

This arrangement, however, belonged to an era of physical ledgers, limited supervision, and slower decision-making. Digital India 2025 bears little resemblance to India in the 1980s.

Today’s banking system is faster, more connected, and deeply digital. Banks are more mature, better governed, and well capitalised. Regulatory supervision has also evolved, with the RBI now using modern, real-time digital tools to monitor institutions. In short, the system is stronger than ever. This raises an important question: are reserve ratios such as CRR and SLR—vestiges of the colonial era—still relevant?

Historically, the RBI relied heavily on CRR and SLR to regulate money supply in the economy. This reliance peaked during the 1980s, when CRR ranged between 7% and 9%, while SLR touched nearly 38%. The objective was to ensure government borrowing requirements were met (via SLR) and money supply was kept in check (via CRR). Over time, these ratios have been steadily reduced. CRR fell to around 4.5% in the 2000s and stands at about 3% today, even as banks earn no interest on CRR balances parked with the RBI. SLR has also declined and stabilised at roughly 18%, reflecting a shift towards a more market-driven economy.

The RBI today relies more on short-term rates such as the repo rate and the marginal standing facility (MSF) for day-to-day liquidity management.

Yet the current framework continues to impose costs. Reserve requirements reduce banks’ lending capacity and
put pressure on their profit margins. The banking industry’s credit-deposit (CD) ratio is now nudging 80%. With deposit growth lagging credit demand, banks have been compelled to issue certificates of deposit—amounting to nearly Rs 5 lakh crore—to fund lending.

Globally, most developed economies do not have such high fixed reserve requirements. China maintains a reserve requirement of 7.5%. In contrast, banks in the United Kingdom, Hong Kong, Sweden and the United States operated without mandatory reserve requirements. In these economies, central banks regulate money supply in the economy through interest rates and market operations. Critics argue that zero-reserve systems heighten liquidity risk and increase the possibility of a run on the banks. Proponents counter that strong deposit insurance mitigates these risks.

India’s banking system has strengthened significantly in recent years. Banks are comfortably capitalised, well above Basel norms, and most have exited the Prompt Corrective Action (PCA) framework. Digital supervision and reporting have reduced the scope for misreporting. Insolvency and Bankruptcy Code reforms have improved credit behaviour and recovery mechanisms. Small depositors are protected by insurance cover up to Rs 5 lakh per depositor per bank. A deep and liquid government securities market aids liquidity management, while a 100% liquidity coverage ratio ensures resilience against run-offs on banks.

Together, these developments show that banking system safety no longer depends solely on fixed reserve rules.

While the CRR could remain at its current level of 3%, reducing the SLR from 18% to 10% would free up nearly Rs 20 lakh crore, which could be used for lending. This would ease pressure on banks, improve profitability, and help lower interest rates. To prevent market disruption, the reduction can be phased over several quarters.

Aligning India’s reserve framework with global practices would enhance flexibility and efficiency. In time, the SLR itself could be phased out altogether, allowing India’s financial system to fully align with global best practices.

(The writers are ex-bankers and currently train bankers at the Manipal Academy of Higher Education, Bengaluru)  

Disclaimer: The views expressed above are the author's own. They do not necessarily reflect the views of DH.