Bank reserves

Also called: Reserves · Topic: Banking, Credit Creation and Monetary Policy · NCERT: Class 7, Ch 8 "Banks and the Magic of Finance"; Class 12, Ch 3 "Money and Banking"

Meaning

Bank reserves are the cash a commercial bank keeps in its own safe (vault cash) plus the money it keeps as deposits with the central bank. Banks hold them against their deposits and do not lend them out.

• Formula: Bank reserves = vault cash + the bank's deposits with the RBI
• Why it matters: reserves are the base on which banks create credit. Each rupee of reserves supports several rupees of deposits. So the RBI can change how much money is in the economy by changing reserves, mainly through the Cash Reserve Ratio (CRR).

Explanation

Where reserves sit on a bank's balance sheet

• A bank balance sheet lists what a bank owns (assets) and what it owes (liabilities). The two sides must balance.
• Assets = Reserves + Loans
• Liabilities = Deposits. A deposit is money the bank owes to the person who put it there.

• Net worth = Assets − Liabilities

• Reserves are on the assets side. They belong to the bank, but it keeps them aside so it can pay depositors who come to withdraw.

• What counts as reserves: only two things.
• Vault cash: notes and coins in the bank's own safe.

• The bank's balances in its account with the RBI.

• What does not count: government securities, T-bills and gold. These count towards the SLR, not towards reserves or the CRR [2].

Types: required reserves and excess reserves

• Required reserves: the legal minimum. In India the CRR sets it.
• Official definition of CRR: the average daily balance a bank must keep with the Reserve Bank, as a per cent of its net demand and time liabilities (NDTL) [2].
• NDTL means, roughly, the bank's total deposits and similar liabilities to the public, after some adjustments.

• Banks earn no interest on CRR money.

• Excess reserves: any reserves a bank keeps above the legal minimum, for example extra vault cash to meet daily withdrawals.

• The reserve deposit ratio (rdr) covers both: the share of deposits that banks keep as reserves (required plus any extra they choose to keep).

How reserves limit credit creation: a worked example (CRR = 20%)

• Credit creation means banks lend out deposits, the loans come back as new deposits, and those are lent again.
• Leela deposits ₹100.
• Required reserve = 20% of 100 = ₹20. The bank lends ₹80.
• The ₹80 is spent and comes back as a deposit. Deposits are now ₹180.

• Required reserves = 20% of 180 = ₹36. The bank still holds the original ₹100 of cash, so it can lend ₹64 more.

• This goes on until all ₹100 of reserves is "used up" as required reserves.

• Deposits = 100 ÷ 0.20 = ₹500. Total loans = ₹400.

• The series 100 + 80 + 64 + 51.2 + … has ratio r = 0.8, so sum = 100 × 1/(1 − 0.8) = ₹500.

• Simple money multiplier = 1/CRR = 1/0.2 = 5.

• If CRR rises to 25%:
• The same ₹100 of reserves now supports only 100 × 4 = ₹400 of deposits.
• Maximum loans fall from ₹400 to ₹300.

• Banks must call back (recall) loans of ₹100.

• Fuller formula (NCERT): m = (1 + cdr)/(cdr + rdr)

• Currency deposit ratio (cdr) = cash held by the public ÷ the public's bank deposits.
• With cdr = 0.25 and rdr = 0.20: m = 1.25/0.45 ≈ 2.8.
• If cdr = 0, then m = 1/rdr, which is the simple formula.

What makes bank reserves rise or fall

• RBI raises or cuts CRR:
• CRR cut → banks need fewer required reserves → more of their reserves become excess and can back new loans.

• CRR raised → banks need more required reserves → lending must shrink.

• RBI lends to banks (for example repo loans):

• The RBI credits the bank's account → the bank's deposits with the RBI rise → reserves rise.

• RBI buys foreign exchange or government securities:

• The RBI pays in rupees → the money reaches banks' accounts with the RBI → reserves rise.

• When the RBI sells them, reserves fall.

• Public withdraws cash:

• Cash leaves banks → vault cash falls → reserves fall and the bank can lend less.

• Banks park money in the SDF:

• The Standing Deposit Facility (SDF) is where banks park extra money with the RBI and earn interest on it. The RBI uses it to soak up extra money from the system.

In India

• Who manages it: the Reserve Bank of India sets the CRR and holds banks' reserve balances. CRR balances must be kept with the RBI, not with the bank itself [2].
• Latest CRR:
• CRR was cut to 4.0% of NDTL in December 2024 [4].

• It now stands at 3.00% [3].

• Size of bank reserves (2024-25, from Table 3.5):

• Bankers' deposits with the RBI = ₹9,91,488 crore (≈ ₹9.91 lakh crore).
• Cash with banks ≈ ₹93,697 crore (≈ ₹0.94 lakh crore).
• Total bank reserves ≈ ₹10.85 lakh crore.

• Deposits ≈ ₹236.6 lakh crore, so rdr ≈ 0.046.

• Reserves in the multiplier (2024-25):

• With cdr ≈ 0.15: m ≈ 1.15/(0.15 + 0.046) ≈ 5.8.
• This is close to the actual m = M3 ₹272.87 lakh crore ÷ M0 ₹48.3 lakh crore ≈ 5.6.

• At a 3% CRR the simple formula gives m ≈ 33. The real figure is much lower because the public holds a lot of cash and banks keep vault cash above the CRR. So the fuller formula describes India better.

• Reserves are part of reserve money (M0): M0 = currency in circulation + bankers' deposits with RBI + other deposits with RBI. Bank reserves sit inside M0 in two places:

• Bankers' deposits with the RBI appear as their own item.

• Vault cash is counted inside currency in circulation, which is currency with the public plus cash with banks.

• Penalty for shortfall: the Bank Rate is published under Section 49 of the RBI Act, 1934. It is also the penal rate charged when a bank falls short of its CRR or SLR [2]. It became 5.75% after the 6 June 2025 policy [2].

• Emergency access: under the Marginal Standing Facility (MSF), a bank short of reserves can borrow overnight from the RBI. It can pledge SLR securities worth up to 2% of NDTL as security [2].
• NCERT errors to note (Class 12, Money and Banking):
• NCERT says CRR is kept "with the bank". Correct: it is kept with the RBI [2].
• NCERT says reserves include bonds and T-bills "issued by the RBI". Correct: reserves are vault cash plus deposits with the RBI only. Government securities count towards SLR [2]. T-bills are government debt, which the RBI issues on the government's behalf.

Don't confuse with

• Statutory Liquidity Ratio (SLR): SLR assets stay with the bank as government securities, cash and gold, and mostly earn interest [2]. CRR reserves are balances with the RBI and earn nothing. Government securities never count as CRR.
• High-powered money (M0 / reserve money): M0 is the RBI's total monetary liability. It includes bank reserves plus currency with the public plus other deposits with the RBI. Bank reserves are only one part of M0.
• "Reserves and surplus" / net worth: these are the bank's own capital, built from retained profits, and they sit on the liabilities side of its balance sheet. Bank reserves are cash assets held against deposits.
• Foreign exchange reserves: these are the RBI's holdings of foreign currency, gold and similar assets. Bank reserves are commercial banks' rupee cash and RBI balances.

Prelims Hooks

• Bank reserves = vault cash + banks' deposits with the RBI. They are assets of the bank and are not lent out.
• CRR is the average daily balance a bank must keep with the RBI, as a % of NDTL, and it earns no interest [2]. Trap: "CRR can be held in government securities" is false.
• CRR was 4.0% in December 2024 [4] and is 3.00% now [3].
• Simple multiplier = 1/CRR. Fuller multiplier: m = (1 + cdr)/(cdr + rdr). A higher reserve ratio means a smaller multiplier.
• Bankers' deposits with the RBI are a component of M0. When the RBI buys forex or G-secs, or lends through repo, bank reserves and M0 rise.
• A shortfall in CRR or SLR is charged the Bank Rate, published under Section 49, RBI Act 1934 [2].

Mains Points

• Low reserves: growth versus safety.
• A small reserve ratio lets banks lend more, which supports growth.
• But the bank holds only a fraction of deposits as cash, so a bank run (many depositors withdrawing at once) can break it.

• So low reserves must come with prudential rules (CRR, SLR, capital norms), a lender of last resort (the RBI) and deposit insurance (DICGC). This fits GS-III answers on financial stability.

• Freeing reserves does not guarantee more credit.

• Cutting CRR (4% in Dec 2024 [4] → 3% [3]) turns required reserves into money banks can lend.
• But loans grow only if firms and households want to borrow and banks are willing to lend.

• The public's cash habit (cdr) also sends money out of banks. So the RBI controls money supply only partly. (GS-III: how well monetary policy works.)

• Forex and fiscal actions change bank reserves.

• When the RBI buys dollars to stop the rupee from rising, or buys government securities, it pays in rupees. That money lands in banks' accounts with the RBI, so reserves rise automatically.
• To stop this from pushing up prices, the RBI may sterilise: absorb the extra money through OMO sales, MSS bonds or the SDF. This links external, fiscal and monetary policy.

Related concepts

• Credit creation
• Bank balance sheet
• Money multiplier
• Currency deposit ratio
• Reserve deposit ratio
• Bank run
• High-powered money
• Currency in circulation
• Money supply
• M1

Read more

• Credit creation, high-powered money and the money supply