RBI Monetary Policy

Presented By: Pratik Gohil 18 Hrishikesh Darge 12 Darshan Rohira 46

Reserve Bank of India

The Reserve Bank of India is the central banking system of India and controls the monetary supply of the rupee as well as US $284.18 billion (July 2010) of currency reserves. Established on 1 April 1935 during the British-Raj in accordance with the provisions of the Reserve Bank of India Act, 1934. Originally privately owned since nationalization of 1949 its owned by Govt. of India.

Main Functions
1. Monetary Authority Formulates, implements and monitors the monetary policy. Objective: maintaining price stability and ensuring adequate flow of credit to productive sectors.

2. Regulator and Supervisor of Financial System Prescribes broad parameters of banking operations within which the country's banking and financial system functions. Objective: maintain public confidence in the system, protect depositors' interest and provide cost-effective banking services to the public.

3. Manager of Foreign Exchange Manages the Foreign Exchange Management Act, 1999. Objective: to facilitate external trade and payment and promote orderly development and maintenance of foreign exchange market in India. 4. Issuer of Currency Issues and exchanges or destroys currency and coins not fit for circulation. Objective: to give the public adequate quantity of supplies of currency notes and coins and in good quality.

5. Development Role Performs a wide range of promotional functions to support national objectives.

6. Other Functions Banker to the Government: performs merchant banking function for the central and the state governments; also acts as their banker. Banker to banks: maintains banking accounts of all scheduled banks.

Monetary Policy
Regulation of supply of Money and Cost and Availability of Credit in the economy Purpose of Monetary Policy Maintain price stability, ensure adequate flow of credit to the productive sectors of the economy and overall economic growth

Variables affected by Monetary Policy in the economy Interest Rates Money Supply Credit Availability Exchange Rates Inflation Rate

Reserve Bank of India

The RBI performs this function under the guidance of the Board for Financial Supervision (BFS). It was constituted in November 1994 as a committee of the Central Board of Directors of the Reserve Bank of India.

Primary objective of BFS is to undertake consolidated supervision of the financial sector comprising commercial banks, financial institutions and nonbanking finance companies.

Monetary Policy Terminology/Instruments

Inflation Money Supply (M3) Bank Rate Cash Reserve Ratio (CRR)
Inflation refers to a persistent rise in prices Total volume of money circulating in the economy Minimum rate at which the central bank provides loans to commercial banks Amount of money that banks must set aside with RBI against their deposits Percentage of bank funds to be maintained in government and approved securities Rate at which RBI lends to other banks against government securities

Statutory Liquidity Ratio (SLR)

Repo Rate Reverse Repo Rate Capital Adequacy Ratio (CAR)

Rate at which RBI borrows from other banks

Capacity of bank meeting the time liabilities and other risk

Open Market Operations (OMO) Purchase and sale of securities in the open market

Key changes
Key changes in 90s 1. Macroeconomic (national output & income, interest rate, inflation rate, exchange rates) and price stability received greater emphasis. 2. Switched to multiple indicator approach. 3. Abolished sector-specific interest rates. 4. Ceiling on rates on deposits removed. 5. CRR and SLR reduced

Goals & Objectives of Monetary Policy

Higher Economic growth

Higher rate of employment

Maintaining equilibrium of Inflation/Deflation Maintain stability in financial market, Interest rates and Forex market.

Instruments of Monetary Policy in India

Net loans to central government (i.e. open market operations) Net purchase of foreign currency assets Change in cash reserve ratio Changes in repo rate and reverse repo rate Bank rate

Monetary Policy Influence

Target Variables Policy Variables
- Money supply - OMO: Liquidity conditions - Policy rates (CRR, repo etc.)
-Inflation -Interest rate -Real GDP -Employment -Consumption

-Savings
-Investment

Difference Between Monetary & Fiscal Policy

Monetary Policy
Changes money supply and Interest rates
Aims for Price Stability, Full employment and Economic growth RBI responsibility for formulation & implementation

Fiscal Policy
To overcome recession and Inflation
Changing demands by changes in Govt. spending & Taxes Government showcases this during Annual Union budget

Monetary Policy RBIs role

Demand for Money

Demand for goods/services

Instruments such as CRR, OMO & Bank Rate

Ensuring price stability and ensuring savings

Control on money supply, velocity of circulation of money during inflation

Control on bank credit when prices rise/fall

Why RBI Conducts Monetary policy

Increase/Decre ase availability of Money Controlling of aggregate demand Currency, Coins, Deposits, Saving Account, Travelers check

Tools and Policy

What do we mean by Money Right Amount of Money

Enable GDP growth at Healthy rate without Inflation

Goals of RBI
Maintain reserves and Secure monetary stability.

Limitations Monetary Policy

Cannot simultaneously stimulate economic demand to reduce unemployment and restrain demand to combat inflation Monetary policy is restricted by the impact of other government actions, especially Fiscal policy, i.e. decisions about government expenditures and taxation
Problems of an inflexible labour market, inadequate infrastructure and, most important, fiscal policy whose discipline is open to question limits the effectiveness of the Monetary policy

Monetary Policy cannot work in isolation!!

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RBIs July 2010 Monetary Policy Key Highlights

RBI has increased its projection for Indias GDP growth in 2010-11 to 8.5 per cent from 8 per cent projected in its April 2010 Annual Policy review

Repo Rate is increased by 25 bp to 5.75 per cent Reverse Repo Rate is hiked by 50 bp to 4.50 per cent

RBIs July 2010 Monetary Policy Key Highlights

Bank Rate has been retained at 6.00 per cent Saving Bank rate has been kept unchanged at 3.50 per cent Inflation outlook raised to 6 percent by the end of March 2011 from 5.5 percent projected earlier

According to RBI, private consumption and investment demand will be the two major drivers of growth during 2010-11.

RBIs July 2010 Monetary Policy Key Highlights

The fiscal consolidation plans programmed in the Union Budget for 2010-11 will benefit from the larger than expected mobilisation from 3G/ Broadband Wireless Access (BWA) spectrum auctions, which together represent 1 per cent point of GDP. The current account deficit, widened to 2.9 per cent of GDP in 2009-10, from 2.4 per cent in 2008-09. In 2010-11 so far, import growth has exceeded export growth, reflecting stronger growth performance of India relative to the global economy. The banking sector switched over to a new base rate system of lending effective July 1, 2010, which is expected to enhance transparency in loan pricing, promote competition in the credit market and also improve the transmission of monetary policy.

RBIs July 2010 Monetary Policy Key Highlights

The base rates set by major public sector banks were in the narrow range of 7.25-8.0 per cent.

Monetary policy intended to inflation and anchor inflationary expectations and respond to any further build-up of inflationary pressures
Rate hike will help maintain financial conditions conducive to sustaining growth RBI will undertake mid-quarter reviews in about 45 days after each quarterly review Next mid-quarter reviews will be in September, December and March Second quarter review of monetary policy on November 2, 2010

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