Monetary Policy of India

The R.B.I. has managed monetary affairs of

the Country, especially the control,
regulation and allocation of bank credit as
and when required.
Objective of the Monetary Policy in India
1) Economic growth
2) Social and economic justice, i.e., an
equitable distribution of income
3) Price stability

Monetary Policy of India

Monetary Policy has tried to maintain a judicious
balance between price stability and economic
growth
With changing economic conditions of the Country,
the R.B.I. has been changing monetary policy
objectives, and has been using a combination of
monetary policy instruments to achieve its t arget .

Price Stabilization
From time to time, inflation had been
troubling us
India had inflation rate of above 6 percent
during the period from 1956 to 1970-71
The average rate of inflation shot up to 12
percent
7.5 percent inflation rate averaged during
1990-91 inflation, rate declined

Price Stabilization
Again inflation rate went up to 12 p.c
an annual inflation rate of 4 percent is
considered socially tolerable and conducive
to growth.

R.B.I.s Regulation
R.B.I. has been acting as a Regulator of
Monetary System.
Monetary measures used by R.B.I. given
below
Bank rate policy:- The bank rate remained
uncharged at 3 percent during 1935-1950.
since 1951, bank rate has been frequently
changed (mainly increased)
R.B.I. kept reducing bank rate for the year
1997which continued till 2008

R.B.I.s Regulation

R.B.I. started enhancing the bank rate and

raised it to 7.5 percent in 2008 due to rate of
inflation crossing double digit
There was a fall in the inflation rate in late
2008, so, the bank rate was cut down to 6
percent in January 2009.

Assessment
Indias experience shows that the bank rate
has not proved to be an effective method of
controlling money supply
Com. Banks do not depend on the R.B.I.
greatly for their financial requirements.
There are other sources of credit.

Cash Reserve Ratio

The C.R.R is another monetary tool of
regulation to control availability of credit in
the economy
C.R.R. refers to the percentage of total
deposits which commercial banks are
required to maintain in the from of cash
reserves the cash reserves are divided
under two heads.
1. Required reserves (RR) and
2. Excess reserve

Cash Reserve Ratio

The required reserve is the cash reserve that
commercial banks are statutorily required to
maintain with the R.B.I. (3 pc. to 15 pc.)
The excess reserve is the cash reserve which
maintain as cash in hand with the purpose of
meeting the currency demand by the depositors
The excess reserves are determined generally
by the banks own experience regarding
currency drain
The R.B.I. has been using CRR quite frequently
as a major instrument of controlling the excess
supply of money

Statutory Liquidity Ratio (SLR)

Under the SLR scheduled commercial banks
are required by statute to maintain a certain
percentage of their total deposits in the form
of liquid assets.
Liquid assets are, bonds of IDBI,
Development banks,
When R.B.I. wants to increase supply of
credit, it reduces the SLR
There days it SRR is around 25 percent.

Open Market Operations

Open Market operations was not used
during the 1970s and the first half of the
1980s
The interest rate on Govt. securities was
raised during the late 1980s
Scheduled commercial banks were granted
freedom to determine their own prime
lending rates.

Open Market Operations

The govt. bonds were earlier not very popular
because of low rate of returns, than the market
rate of interest.
Another reason, for less effectiveness of the
security market, especially the bill market, is
not yet well developed and fully organised,
and the govt. securities market is almost non
existent.

The Repo Rate: A New Monetary Tool

Under the repo system, the R.B.I. buys
securities back from the banks and thereby
provides funds to the banks
It is a form of the lending money to the banks
for a short period 1 14 days
The rate of interest at which the R.B.I. lends
money to the bank is the repo rate
There is reverse repo rate it is the rate at
which the banks can sell the securities to the
R.B.I.

The Repo Rate: A New Monetary Tool

When the objective is to control the money
supply, the R.B.I. uses the reverse repo rate
and increases, the repo rate.
When the central bank aims at increasing
liquidity (or money supply), it buys back
the securities. This increases the funds with
commercial banks which can be used to
create credit (give more loans)

Evaluation of Indias Monetary Policy

Has the monetary policy of R.B.I. been
successful?
1. Examined against the price stability
objective, Indias monetary policy appears
to be only partially successful
2. In spite of all monetary measures, inflation
rate shot up to about 12 percent in 2008

Evaluation of Indias Monetary Policy

3. During a period of 35 years, (1960-61 to
1995-96), the monetary policy was
unsuccessful in achieving its objectives
4. Inflation rate was quite within the
desirable limit 4-5 percent during 1995 96
to 2006 07
5. To conclude we may say, that, things might
be much worse in the absence of monetary
controls adopted by the R.B.I.

Limitations & Effectiveness of Monetary

Policy

1.
2.
3.
4.
5.

The Time Lag:- Time lag is the time taken in

chalking
out
the
policy
action,
its
implementation and response time.
The inside lag:- The inside lag refer to the time
lost in
Identifying the nature of the problem
Identifying the sources of the problem
Assessing the magnitude of the problem
Choice of appropriate policy action and
Implementation of policy actions

Limitations & Effectiveness of Monetary

Policy
The outside Lag:- refers to the time taken
by the households and the firms to react to
the policy action taken by the monetary
authorities. It has been observed that, when
preparatory lags and operational lags are
long, not only the nature and the magnitude
of the problem may change rendering the
policy ineffective. It may worsen the situation.

Problem in Forecasting
Forecasters may misread the current state of
the economy. Forecasters has not reached
perfection, particularly at major turning points
in the economy
The presence and growth of Non-banking
Financial intermediaries:- Rapid growth of
non-banking financial intermediaries has
reduced the scope of effectiveness of this
policy. The share of the commercial banks in
the total credit has been reduced

Underdeveloped
Capital Markets

Money

and

In countries like India, effectiveness of

monetary policy is reduced considerably
because of the under developed nature
of their money and capital markets.