RBI Monetary Policy and it’s Instruments

DIZITER
By DIZITER
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Monetary policy means the policy of RBI about the use of monetary instruments that are in its control to achieve the goals specified in the RBI Act 1934.

Goals of the Monetary Policy of RBI:

The primary objective of Monetary policy is to maintain price stability by keeping the growth objective in mind. In May 2016, the RBI Act, 1934 was amended to provide the statutory basis for the implementation of the flexible inflation targeting framework and the Act also provides for the inflation target that is to be set by the government of India, consulting with RBI once every 5 years.

Section 45ZB of the RBI Act, 1934 also states that 6 6-member monetary policy committee is to be constituted by the Central Government by notification in the Official Gazette.

The Central Government constituted the MPC in September 2016 under:

  1. Governor of Reserve Bank of India – Shri Shaktikanta Das.
  2. Deputy Governor of Reserve Bank of India, in charge of monetary policy – Shri Bibhu Prasad Kanungo.
  3. Dr. Michael Debabrata Patra, One officer of the Reserve Bank of India nominated by the Central Board.
  4. Shri Chetan Ghate, Professor, Indian Statistical Institute(ISI)
  5. Prof. Pami Dua, Director, Delhi School of Economics, and
  6. Dr. Ravindra H. Dholakia, Professor, Indian Institute of Management, Ahmedabad.

The Monetary Policy Committee decides the policy rate and adjusts accordingly to achieve the inflation target. MPC is assisted by the Reserve Bank’s Policy Department in the formulation of Monetary Policy, and the Financial Market Operation Department(FMOD) operationalizes the monetary policy in day-to-day liquidity management operations.

The MPC is required to conduct the meeting at least 4 times a year, and a minimum of four members should be present there. Each member of the Monetary Policy Committee has one vote, and in case the vote gets equal then the Governor has a second vote.

Now, let’s talk about the Instruments of Monetary Policy.

Repo Rate: It is a fixed rate at which the Reserve Bank provides overnight loans to banks against collateral of the Government and other approved security.

Reverse Repo Rate: It is a fixed rate at which the Reserve Bank absorb liquidity, on an overnight basis, from the bank against the collateral. We can say that it is just the opposite of the repo rate in the repo rate RBI gives loans to banks and in the Reverse repo rate, RBI takes loans from banks.

Liquidity Adjustment Facility (LAF): RBI’s facility helps banks generate funds by borrowing, leading RBI to adjust their daily liquidity mismatch. It has two components repo and reverse repo. The rate at which the Reserve Bank provides overnight loans to banks against collateral of the Government and other approved securities is repo rate and the rate at which RBI takes money from banks is reverse repo.

Marginal Standing Facility(MSF): It is a facility under which commercial banks can borrow an additional amount from RBI by dipping into their Statutory Liquid Ratio(SLR) up to a certain limit at a penal rate of interest.

The MSF rate and reverse repo rate determine the corridor for the daily movement in the weighted average call money rate.

Bank Rate: It is a rate at which the Reserve Bank is ready to buy bills of exchange or rediscount bills of exchange or other commercial papers for the long term. The Bank rate is published under Section 49 of the Reserve Bank of India Act,1934. The bank rate is the same as the MSF rate so whenever the MSF changes Bank Rate also changes.

Cash Reserve Ratio(CRR): It is the minimum amount of cash that a bank has to maintain with the Reserve Bank. It is the Percent of Net demand and time liability(NDTL) that the bank has to maintain with RBI.

Statutory Liquidity Ratio (SLR): It is the amount that a bank has to maintain with itself as a liquid asset like, government securities, cash, and gold.

So, I hope you have understood Monetary Policy and its Instrument, let’s move forward and know the current rates.

Current rates:

Repo rate: 6.50%

Reverse Repo rate: 3.35%

Bank Rate: 6.75%

Marginal Standing Facility (MSF): 6.75

Cash Reserve Ratio(CRR): 4%

Statutory Liquidity Ratio(SLR): 20.75%

 

 

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