A Cash Reserve Ratio, also known as the Reserve Requirement is a regulation set by Central bank (Federal Reserve or the nation’s governing bank) which dictates the minimum amount (reserves) that a commercial bank (in some cases, any bank) must be held to customer notes and deposits. In simpler terms this is the amount the bank must surrender with/to the Central (governing) Bank.
It is a percentage of bank reserves to deposits
and notes. Cash reserve ratio is also known as liquidity ratio or cash asset
ratio and is utilized as a tool (sometimes) in monetary policy and as a tool to
influence the country’s interest rates, borrowing and economy. The central
banks in the western world refrain from altering the reserve requirements or
rarely do it as it would result in the banks (that have lower excess reserves)
facing immediate liquidity problems and hence to implement their monetary
policy, they prefer using open market operations.