MONETORY POLICY

Monetary policy is essentially a programme of action undertaken by the monetary authorities, generally the central bank, to control and regulate the supply of money with the public and the flow of credit with a view to achieving predetermined macroeconomic goals.
ACCORDING TO D.C ROWAN

The Monetary policy is defined as discretionary act undertaken by the authorities designed to influence (a) the supply of money (b) cost of money or rate of interest (c) the availability of money for achieving specific objectives.

ELEMENTS

It regulates the stock and the growth rate of money supply. It regulates the entire banking system of the economy. It determines the allocation of loan among different sector. It provides the incentive to promote savings and to raise the saving income ratio. It ensures adequate of credit for growth and tries to achieve price stability.

To regulate money supply in the economy. To promote economic growth. To manage the aggregate demand. To achieve stability in the external value of rupee. To regulate and expand banking. To control business cycles.

There are two kinds of tools: QUANTITATIVE TOOLS it regulates the total quantity of credit in the economy. It is not for a particular sector or product. It is non discriminatory for all sectors. QUALITATIVE TOOLS they control the supply of money in selective sectors of the economy. It is discriminatory in nature as it is not applicable to whole economy.
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Quantitative instruments of monetary policy

Bank rate
Open market operations Cash reserve ratios Statutory liquidity ratio Multiple rate of interest Repos and reverse repos

 The minimum rate at which the central bank of

a country provided financial assistance to commercial banks

By raising or lowering bank rate, the central

bank can reduce or expand credit granted by banks

How bank rate works?

bank rate cost of borrowing by commercial

banks from the central bank in lending rate of commercial banks less borrowing prices

Adverse effect on the level of production and Usually used during inflationary situation Similarly, a fall in bank rate lower the lending

rates of CBs and lead to expansion of bank credit and may raise income and output

CONDITIONS FOR SUCCESSFUL WORKING OF BANK RATE

A well organized money market in order to have

impact on other rates in the market

rates

Reactions of borrowers to change in the lending A fall in output may coexist with a rise in price Customers assessment of the economic situation.

If the business conditions are not favorable lowering of lending rate may not attract much borrowers

 Primary instrument of credit control in developed

markets

Involve the purchase and sale of securities by the

central bank

The purchase of securities by a central bank leads to

an increase in the bank reserves deposits

This leads to a multiple expansion of credit and

On the other hand sale of securities by the central

bank will reduce bank reserves and lead to multiple contraction of credit
India, because this market is very narrow in India

This is not used as an instrument of credit control in

CRR
All scheduled commercial banks are required to maintain

a fortnightly minimum average daily cash reserve equivalent with RBI . 3 and 15 per cent.

The apex bank is empowered to vary this ratio between

RBI uses

to release funds needed for the economy from time to time.

CRR either to impound the excess liquidity or

STATUTORY LIQUIDITY RATIO

Every bank is required to maintain at the close of business every day, a minimum proportion of their Net Demand and Time Liabilities as liquid assets in the form of cash, gold etc, in addition to cash reserve requirements. The ratio of liquid assets to demand and time liabilities is known as Statutory Liquidity Ratio (SLR). Present SLR is 23%.

 REPOS AND REVERSE REPO

RBI is empowered to enter a transaction in

which two parties agree to sell and repurchase the same security. Under such an agreement the seller sells specified securities with an agreement to repurchase the same at a mutually decided future date and a price.

REPOS AND REVERSE REPO

Similarly, the buyer purchases the securities with

an agreement to resell the same to the seller on an agreed date in future at a predetermined price. Such a transaction is called a Repo when viewed from the prospective of the seller of securities (the party acquiring fund) and Reverse Repo when described from the point of view of the supplier of funds. Thus, whether a given agreement is termed as Repo or a Reverse Repo depends on which party initiated the transaction

 Change in margin requirements of loans Moral persuasion Credit authorisation schemes

Credit monitoring arrangements

Direct action New loan system for delivery of bank credit

Ceiling on loans

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Margin is the difference between loanvalue and market value of security.if margin % is more then less loan will be given for a certain value of security and vice versa.

CHANGE IN MARGIN REQUIREMENTS OF LOAN

MORAL PERSUASION
Reserve bank exercise moral influence upon member banks with a view to persue its monetary policy .It convince the commercial banks to curb loan to unproductive sectors and advice them to extend more credit to priority sector.

CREDIT MONITORING ARRANGEMENT

Rbi monitors and scruitinises all sanctions of bank loan exceeding rs. 5 crore to any single party for w.c requirements.

NEW LOAN SYSTEM FOR DELIVERY OF BANK CREDIT

It is applicable on borrowers who demand loan exceeding 20 crores.its objective is better utilisation of bank credit by large borrowers.

CEILING ON LOANS
Ceiling on loan for any single project for the banking sector has been fixed at rs. 500 crore. In other words bank can sanction maximum loan of 500 crore for a single party.

ADVANTAGES
Active policy.
Controlled money supply. Seasonal variation.

Flexible.
Investment and saving oriented. Wide range of methods of credit control.

LIMITATIONS
Limited scope of monetary policy in economic development. Limited role in controlling inflation. Poor banking habits. Existence of black money. Limitations of monetary instrument. Conflicting objective. Underdeveloped money market. Lack of coordination with fiscal policy Imbalance in credit allocation

CURRENT MONETARY POLICY OF INDIA

Bank rate 9%
Repo rate 8% Reverse repo rate 7 %

Cash reserve ratio 4.50%

Statutory liquidity ratio 23% Inflation rate 7.2% GDP growth rate is estimated 6.7%

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