Reserve Bank of India:

Quantitative Methods of RBI Credit Control

1. Bank Rate Policy:
The standard rate at which the RBI is prepared to buy or rediscount bills of exchange
or other commercial papers eligible for purchase under the provisions of the Act of
RBI. Thus the RBI, rediscounts the first class bills in the hands of commercial banks to
provide them with liquidity in case of need. This rate is subjected to change from time
to time in accordance with the economic stability and its credibility of the nation. The
bank rate signals the central banks long-term outlook on interest rates. If the bank
rate moves up, long-term interest rates also tend to move up, and vice-versa.
Banks make a profit by borrowing at a lower rate and lending the same funds at a
higher rate of interest. If the RBI hikes the bank rate (this is currently 6 per cent), the
interest that a bank pays for borrowing money (banks borrow money either from each
other or from the RBI) increases. It, in turn, hikes its own lending rates to ensure it
continues to make a profit.
2. Open Market Operation:
It means of implementing monetary policy by which a central bank controls the short
term interest rate and the supply of base money in an economy, and thus indirectly
the total money supply. In times of inflation, RBI sells securities to mop up the excess
money in the market. Similarly, to increase the supply of money, RBI purchases
securities.
3. Adjusting with CRR and SLR:
By adjusting the CRR(Cash Reserve Ratio) and SLR(Statutory Liquidity Ratio) which are
short term tools to be used to shortly regulate the cash and fund flows in the hands of
the People, banks and Government, the RBI regularly make necessary adjustments in
these rates. These variations in the rates will easily have a greater control over the
cash flow of the country.
i) CRR(Cash Reserve Ratio): All commercial banks are required to keep a certain
amount of its deposits in cash with RBI. This percentage is called the cash reserve
ratio. The current CRR requirement is 8 per cent. This serves two purposes. It ensures
that a portion of bank deposits is totally risk-free and secondly it enables that RBI
control liquidity in the system, and thereby, inflation by tying their hands in lending
money
ii) SLR(Statutory Liquidity Ratio): Banks in India are required to maintain 25 per cent

of their demand and time liabilities in government securities and certain approved
securities. What SLR does is again restrict the banks leverage in pumping more money
into the economy by investing a portion of their deposits in government securities as a
part of their statutory liquidity ratio (SLR) requirements.
4. Lending Rate:
Lending rates are the ratios fixed by RBI to lend the money to the customers on the
basis of those rates. The higher the rate means the credit to the customers is costlier.
The lower the rate means the credit to the customers is less which will encourage the
customers to borrow money from the banks more that will facilitate the more money
flow in the hands of the public.
5. Repo Rate:
Repo rate is the rate at which banks borrow funds from the RBI to meet the gap
between the demand they are facing for money (loans) and how much they have on
hand to lend.
If the RBI wants to make it more expensive for the banks to borrow money, it increases
the repo rate; similarly, if it wants to make it cheaper for banks to borrow money, it
reduces the repo rate.
6. Reverse Repo Rate:
The rate at which RBI borrows money from the banks (or banks lend money to the RBI)
is termed the reverse repo rate. The RBI uses this tool when it feels there is too much
money floating in the banking system
If the reverse repo rate is increased, it means the RBI will borrow money from the
bank and offer them a lucrative rate of interest. As a result, banks would prefer to
keep their money with the RBI (which is absolutely risk free) instead of lending it out
(this option comes with a certain amount of risk)

4 qualitative measures of monetary policy

SUSHIL SURI

The qualitative measures do not regulate the total amount of credit created by the commercial banks.
These measures make distinction between good credit and bad credit and regulate only such credit,
which creates economic instability. Therefore, qualitative measures are known as the selective
measures of credit control.
Qualitative credit control measures include:

(i) Prescription of margin requirements

(ii) Consumer credit regulation
(iii) Moral suasion
(iv) Direct action
(i) Prescription of margins requirements:
Generally, commercial banks give loan against stocks or securities. While giving loans against
stocks or securities they keep margin. Margin is the difference between the market value of a security
and its maximum loan value. Let us assume, a commercial bank grants a loan of Rs. 8000 against a
security worth Rs. 10,000. Here, margin is Rs. 2000 or 20%.
If central bank feels that prices of some goods are rising due to the speculative activities of
businessmen and traders of such goods, it wants to discourage the flow of credit to such speculative
activities. Therefore, it increases the margin requirement in case of borrowing for speculative
business and thereby discourages borrowing. This leads to reduction is money supply for
undertaking speculative activities and thus inflationary situation is arrested.
On other contrary, central bank can encourage borrowing from the commercial banks by reducing
the margin requirement. When there is a grater flow of credit to different business activities,
investment is increased. Income of the people rises. Demand for goods expands and deflationary
situation is controlled.
Thus, margin requirement is a significant tool in the hands of central bank to counter-act inflation
and deflation.
(ii) Consumer credit regulation:
Now-a-days, most of the consumer durables like T.V., Refrigerator, Motorcar, etc. are available on
installment basis financed through bank credit. Such credit made available by commercial banks for
the purchase of consumer durables is known as consumer credit.
If there is excess demand for certain consumer durables leading to their high prices, central bank can
reduce consumer credit by (a) increasing down payment, and (b) reducing the number of
installments of repayment of such credit.
On the other hand, if there is deficient demand for certain specific commodities causing deflationary
situation, central bank can increase consumer credit by (a) reducing down payment and (b)
increasing the number of installments of repayment of such credit.
(iii) Moral suasion:
Moral suasion means persuasion and request. To arrest inflationary situation central bank pursuades
and request the commercial banks to refrain from giving loans for speculative and non-essential

purposes. On the other hand, to counteract deflation central bank pursuades the commercial banks
to extend credit for different purposes.
Central bank also appeals commercial banks to extend their wholehearted co-operation to achieve
the objectives of monetary policy. Being the monetary authority directions of the central bank are
usually followed by commercial banks.
(v) Direct Action:
This method is adopted when a commercial bank does not co-operate the central bank in achieving
its desirable objectives. Direct action may take any of the following forms:
Central banks may charge a penal rate of interest over and above the bank rate upon the defaulting
banks;
Central bank may refuse to rediscount the bills of those banks which are not following its directives;
Central bank may refuse to grant further accommodation to those banks whose borrowings are in
excess of their capital and reserves.

Monetary policy of India

Monetary policy is the process by which monetary authority of a country, generally a central bank controls
the supply of money in the economy by exercising its control over interest rates in order to maintain price
stability and achieve high economic growth.[1] In India, the central monetary authority is the Reserve Bank
of India (RBI). is so designed as to maintain the price stability in the economy. Other objectives of the
monetary policy of India, as stated by RBI, are:
1. Price Stability
Price Stability implies promoting economic development with considerable emphasis on price
stability. The centre of focus is to facilitate the environment which is favourable to the architecture
that enables the developmental projects to run swiftly while also maintaining reasonable price
stability.
2. Controlled Expansion Of Bank Credit
One of the important functions of RBI is the controlled expansion of bank credit and money
supply with special attention to seasonal requirement for credit without affecting the output.
3. Promotion of Fixed Investment
The aim here is to increase the productivity of investment by restraining non essential fixed
investment.
4. Restriction of Inventories

Overfilling of stocks and products becoming outdated due to excess of stock often results is
sickness of the unit. To avoid this problem the central monetary authority carries out this essential
function of restricting the inventories. The main objective of this policy is to avoid over-stocking
and idle money in the organization
5. Promotion of Exports and Food Procurement Operations
Monetary policy pays special attention in order to boost exports and facilitate the trade. It is an
independent objective of monetary policy.
6. Desired Distribution of Credit
Monetary authority has control over the decisions regarding the allocation of credit to priority
sector and small borrowers. This policy decides over the specified percentage of credit that is to
be allocated to priority sector and small borrowers.
7. Equitable Distribution of Credit
The policy of Reserve Bank aims equitable distribution to all sectors of the economy and all social
and economic class of people
8. To Promote Efficiency
It is another essential aspect where the central banks pay a lot of attention. It tries to increase the
efficiency in the financial system and tries to incorporate structural changes such as deregulating
interest rates, ease operational constraints in the credit delivery system, to introduce new money
market instruments etc.
9. Reducing the Rigidity
RBI tries to bring about the flexibilities in the operations which provide a considerable autonomy.
It encourages more competitive environment and diversification. It maintains its control over
financial system whenever and wherever necessary to maintain the discipline and prudence in
operations of the financial system.

Monetary operations[edit]
Monetary operations involve monetary techniques which operate on monetary magnitudes such
as money supply, interest rates and availability of credit aimed to maintain Price Stability,
Stable exchange rate, Healthy Balance of Payment, Financial stability, Economic growth. RBI, the apex
institute of India which monitors and regulates the monetary policy of the country stabilizes the price by
controlling Inflation.RBI takes into account the following monetary policies:

Major Operations[edit]
Open Market Operations

An open market operation is an instrument of monetary policy which involves buying or selling of
government securities from or to the public and banks. This mechanism influences the reserve
position of the banks, yield on government securities and cost of bank credit. The RBI
sells government securities to contract the flow of credit and buys government securities to
increase credit flow. Open market operation makes bank rate policy effective and maintains
stability in government securities market.

CRR Graph from 1992 to 2011[2]

Cash Reserve Ratio

Cash Reserve Ratio is a certain percentage of bank deposits which banks are required to keep
with RBI in the form of reserves or balances .Higher the CRR with the RBI lower will be
the liquidity in the system and vice-versa.RBI is empowered to vary CRR between 15 percent and
3 percent. But as per the suggestion by the Narshimam committee Report the CRR was reduced
from 15% in the 1990 to 5 percent in 2002. As of January 2013, the CRR is 4.00 percent. [3]

SLR Graph from 1991 to 2011[4]

Statutory Liquidity Ratio

Every financial institution has to maintain a certain quantity of liquid assets with themselves at
any point of time of their total time and demand liabilities. These assets can be cash, precious
metals, approved securities like bonds etc. The ratio of the liquid assets to time and demand

liabilities is termed as the Statutory liquidity ratio.There was a reduction of SLR from 38.5% to
25% because of the suggestion by Narshimam Committee. The current SLR is 23%. [5]

Bank Rate Graph from 1991 to 2011

Bank Rate Policy[6]

The bank rate, also known as the discount rate, is the rate of interest charged by the RBI for
providing funds or loans to the banking system. This banking system involves commercial and cooperative banks, Industrial Development Bank of India, IFC, EXIM Bank, and other approved
financial institutes. Funds are provided either through lending directly or rediscounting or buying
money market instruments like commercial bills andtreasury bills. Increase in Bank Rate
increases the cost of borrowing by commercial banks which results into the reduction in credit
volume to the banks and hence declines the supply of money. Increase in the bank rate is the
symbol of tightening of RBI monetary policy. As of 1 January, 2013, the bank rate was 8.75% and
from August 2013 bank rate is 10.25%
Credit Ceiling
In this operation RBI issues prior information or direction that loans to the commercial banks will
be given up to a certain limit. In this case commercial bank will be tight in advancing loans to the
public. They will allocate loans to limited sectors. Few example of ceiling are agriculture sector
advances, priority sector lending.
Credit Authorization Scheme
Credit Authorization Scheme was introduced in November, 1965 when P C Bhattacharya was the
chairman of RBI. Under this instrument of credit regulation RBI as per the guideline authorizes
the banks to advance loans to desired sectors.[7]
Moral Suasion
Moral Suasion is just as a request by the RBI to the commercial banks to take so and so action
and measures in so and so trend of the economy. RBI may request commercial banks not to give
loans for unproductive purpose which does not add to economic growth but increases inflation.
Repo Rate and Reverse Repo Rate

Repo rate is the rate at which RBI lends to commercial banks generally against government
securities. Reduction in Repo rate helps the commercial banks to get money at a cheaper rate
and increase in Repo rate discourages the commercial banks to get money as the rate increases
and becomes expensive. Reverse Repo rate is the rate at which RBI borrows money from the
commercial banks. The increase in the Repo rate will increase the cost of borrowing and lending
of the banks which will discourage the public to borrow money and will encourage them to
deposit. As the rates are high the availability of credit and demand decreases resulting to
decrease in inflation. This increase in Repo Rate and Reverse Repo Rate is a symbol of
tightening of the policy. As of August 2013, the repo rate is 7.25 % and reverse repo rate is 6.25%