What Is Crr?why Is It Affecting Bank Stocks

Well we have seen two times that banks crash on hearing the news of CRR hike.But what is CRR?CRR is nothing but Cash Reserve Ratio.Its increased 50 basis points as per the latest guidelines.But how will affect the fundamentals of a bank.
Well it affects the banks operating margin in macro level.You may ask how?The answer is simple.CRR is nothing but the amount of mney every bank has to deposit to the RBI.Its now around 6%.Which means if a bank has 100 crores they have to keep 6 croes with RESERVE BANK OF INDIA as reserve.Why is this CRR?IS it really needed?
Yes CRR is necessary to have control over the money freely available that is control Liquidity.Now one has to remember more the liquidity more the inflation because if u have money u often afford to spend it which means u are ready to pay the extra premium which causes extra demand and more price and hence inflation.Now by raising the CRR the banks has to keep more money from their balance sheet to sleep inside RBI and help to control liquidity and there by inflation.
To meet the raised reserve ratio banks raise their prime lending rate so as to manage their balance sheet which inturn increase the housing rates and other lending rates and therby scaring people to go for fresh loans and there by control liquidity.
And RBI says it will suck 14000 crores by raising CRR.
cheers,
2003

Hi!

I would like to differ a bit over here. CRR is not necessary to control the supply of money (M3). The objective behind maintenance of CRR and SLR is to ensure the solvency and liquidity of the bank. However, these two ratios are frequently used by the Central Banks to tighten the money supply into the economy.

Best Regards,
--Ashish

Here is something from http://www.personalfn.com/detail.asp?date=2/14/2007&story=1

Hi Ashish,

what is M3? Also what is SLR? How it is different from CRR. Thanks.

Slr & M3

Hi!

Statutory liquidity ratio (SLR) is the %age of a bank's liability which it's required to maintain in the form of Permitted securities like government securites. While CRR is required to be maintained in Cash or liquid-cash (gold) form, SLR is required to be maintained in the form of approved securities.

Like any other commodity, the price of money can be determined by price-supply equilibrium. M is the measurement of money supply. Depending upon the circumstances and perspective, money supply is measured from a short-term or long-term perspective.M0 to M3 are different measures of money supply with M3 denoting the longest term.

The different M's are:

M0: The total of all physical currency, plus accounts at the central bank which can be exchanged for physical currency.
M1: M0 + the amount in current bank accounts.
M2: M1 + savings accounts+money market accounts.
M3: M2 + all other Certifice of Deposits, Euro Deposits & repurchase agreements.

Best Regards,
--Ashish