Inflation, GDP & Indian Banking Sector Performance

There is no direct cause and effect relationship between CRR and inflation. When economy is in or near full employment of resources like productive capacity and labor, prices tend to rise if the money supply increases. Higher money supply means higher the demand for goods and services. When the Reserve Bank thinks that the inflation is rising and it wants to reduce the money supply, it raises the CRR. The banks¿ ability to create loans and deposits gets reduced. Thus by raising the CRR the RBI is able to curb credit growth, deposit growth and money supply growth. RBI expects with the slower growth in money supply, the credit or advances of the banks will grow at a slower pace and, hence, the demand for goods and services will grow at a slower pace and therefore the inflation rate will come down.