Cash Reserve Ratio as a Monetary Policy Tool in Nigeria: Implications for Banking System Liquidity and Stability

Abstract

In pursuit of price stability, the Central Bank of Nigeria (CBN) deploys a range of monetary policy instruments to regulate liquidity conditions and influence macroeconomic outcomes. Among these, the Cash Reserve Ratio (CRR) has played an increasingly prominent role in recent tightening cycles. While these measures aimed to curb excess liquidity and inflationary pressures, concerns have emerged regarding their implications for bank intermediation and financial stability. This study evaluates the impact of CRR on banking system liquidity and stability in Nigeria using an Autoregressive Distributed Lag (ARDL) model and monthly data from June 2010 to March 2025. The results confirm the effectiveness of the CRR as a liquidity management tool: on average, a 1.0 percentage point increase in the CRR reduces banking system liquidity by approximately 0.44 per cent, with stronger effects in the short run. On financial stability, the findings indicate that while higher CRR initially exerts pressure on bank capital, asset quality, and profitability, these effects diminish over time. The study concludes that although the CRR remains an effective instrument for liquidity control, its aggressive use entails trade-offs for banking sector performance. It recommends a cautious approach to further tightening in the near term to safeguard financial stability. To address persistent liquidity concerns more efficiently, the study also proposes a differentiated, non-remunerated CRR framework that includes foreign currency deposits, thereby strengthening liquidity sterilisation without disproportionately constraining domestic intermediation.