The policy by which the desired level
of money flow and its demand is regulated by the RBI is known as
monetary policy. Monetary policy is maintained through actions such as
increasing the interest rate, or changing the amount of money banks need
to keep in the vault (bank reserves).
The main objectives of Monetary Policy are,
- To maintain price stability.
- To ensure adequate flow of credit to productive sectors so as to assist growth.
- Arrangement of full employment
- Expansion of credit facility
- Equality & Justice Stability in exchange rate
- Promotion of Fixed Deposit
- Equitable distribution of Credit
RBI use the following tools to regulate the monetary policy. They are,
- Open Market Operations
- Liquid Adjustment Facility
- Bank Rate
- Cash Reserve Ratio
- Statutory Liquidity Ratio
- Repo Rate
- Reverse Repo Rate
What are Open Market Operations (OMOs)?
Open market operation is an instrument
of monetary policy which involves buying or selling of government
securities from or to the public and banks. OMOs are an effective
quantitative policy tool in the armoury of the RBI, but are constrained
by the stock of government securities available with it at a point in
time.
What is meant by Liquid Adjustment Facility?
Liquidity adjustment facility (LAF) is a
monetary policy tool which allows banks to borrow money through
repurchase agreements. LAF operations help the RBI effectively transmit
interest rate signals to the market.
interest rate signals to the market.
What is meant by Bank Rate?
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 on its long-term lendings.
The clients who borrow through this route are the GoI, State
governments, Banks, Financial Institutions, Co-operative Banks, NBFCs,
etc.
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.
What is meant by Cash Reserve Ratio?
The cash reserve ratio (CRR) is the
ratio (fixed by the RBI) of the total deposits of a bank in India which
is kept with the RBI in cash form. 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.
What is meant by SLR?
The statutory liquidity ratio (SLR) is
the ratio (fixed by the RBI) of the total deposits of a bank which is
to be maintained by the bank with itself in non-cash form prescribed by
the Government to be in the range of 25 to 40 per cent. SLR rate is
determined and maintained by RBI in order to control the expansion of the bank credit.
SLR is used to control inflation and
propel growth. Through SLR rate the money supply in the system can be
controlled effectively.
What is Repo Rate?
The rate of interest the RBI charges
from its clients on their short-term borrowing is the repo rate
in India. 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.
It has direct impact on the nominal interest rates of the bank’s lending. The repo rate was introduced in December 1992.
What is Reverse Repo Rate?
It is the rate of interest the RBI
pays to its clients who offer short term loan to it. It was started in
November 1996 as part of Liquidity Adjustment Facility (LAF) by the
RBI.
The increase in Repo Rate and Reverse Repo Rate by the RBI is a symbol of tightening of the policy.
What is Marginal Standing Facility?
Marginal Standing Facility is a scheme
announced by the RBI in its Monetary Policy, 2011-12 which came into
effect from 9th May 2011. Under this scheme, banks can borrow overnight
upto 1 per cent of their net demand and time liabilities (NDTL) from the
RBI, at the interest rate 1 per cent (100 basis points) higher than the
current repo rate.
Current Reserve Rates as of February 2016
| Bank rate | 7.75% |
| CRR | 4% |
| SLR | 21.5% |
| Repo rate | 6.75% |
| Reverse repo rate | 5.75% |
| Marginal Standing facility rate | 7.75% |