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RBI controls money supply in the market through various tools and measures.
1.CRR - Cash Reserve Ratio is the proportion of total deposits that the banks are
required to maintain with the RBI has reserves. By changing this ratio RBI can influence
the amount of cash that is available for the banks to lend. A high CRR implies less money
to lend, thus contraction in money supply. A low CRR enables banks to hold more cash
with them, which is then available to lend. Thus, expanding the money supply.
2.Open Market Operation - It is the sale/purchase of the government bonds and
securities in the market to adjust the rupee liquidity. For example, when RBI sells
government bonds/securities, people buy them against money (say cash) this leads to a
contraction in money supply as money moves from public to RBI. In case of purchases,
money supply expands.
3.Repo Rate - It is the rate at which the central bank (RBI) lends money to commercial
banks. If RBI increases this repo rate, it becomes costlier for the commercial banks to
borrow money from RBI. They are left with lesser amount of money to lend to the
general public. Thus the money supply contracts. A low repo rate helps commercial bank
avail loans at cheaper prices, thus expanding the money supply.
4.When inflation is high, RBI increases interest rate so in this way money supply
decreases. So in this way people take less money from bank.
When inflation is low, RBI decreases interest rate so as to increase money supply in
market.
So, by controlling Interest rate RBI control money supply in market. So as to prevent
conditions of Hyper-Inflation of Hyper-Deflation.
7.00%
7.00%
4.00%
21.00%