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Frozen by uncertainty: On RBI and its mandate to ensure price stability

  • Category
    Environment
  • Published
    16th Feb, 2022

Context

The RBI's Monetary Policy Committee (MPC) kept key interest rates unchanged and retained the accommodative stance in its first policy meeting after Union Budget 2022. 

About

Status-quo:

  • The six-member Monetary Policy Committee (MPC), headed by Governor Shanktikanta Das, decided to keep the policy Repo Rate unchanged at 4.0%.
  • The Reverse Repo Rate was also kept unchanged at 3.35%.
  • Marginal Standing Facility Rate and Bank Rate are at 4.25%.

Rationale behind Keeping Policy Rate unchanged:

  • Accommodative stance of RBI
    • It means RBI aims to make interest rates low enough.
    • It will spur strong enough economic growth to reduce unemployment or to prevent unemployment from rising.
  • RBI is aiming to revive and sustain growth on a durable basis.
  • It may help in neutralising the adverse impact of COVID-19 on the economy.
    • While ensuring that inflation remains within the target, going forward.

About Monetary Policy:

  • Monetary policy can be defined as a process of managing a nation’s money supply to contain/control the inflation, achieving higher growth rates and achieving full employment.
  • Generally, all across the globe, monetary policy is announced by the central banking body of the country, for example the RBI announces it in India. 

Objectives of Monetary Policy:

In India, as defined by former RBI governor C. Rangarajan, broad objectives of monetary policy are:

  • To regulate monetary expansion so as to maintain a reasonable degree of price stability; and
  • To ensure adequate expansion in credit to assist economic growth

Further the objectives of Monetary Policy are:

  • It leads to economic growth: The monetary policy can influence economic growth by controlling real interest rates and its resultant impact on the investment.
  • Price Stability:Inflation and deflation both are not suitable for an economy.
  • Exchange Rate Stability:Monetary policy aims at maintaining the relative stability in the exchange rate.
  • It generates employment:If the monetary policy is expansionary then credit supply can be encouraged. It would thus help in creating more jobs in different sector of the economy.

Monetary Policy Tools:

  • Cash Reserve Ratio (CRR): Banks are required to set aside this portion in cash with the RBI. The bank can neither lend it to anyone nor can it earn any interest rate or profit on CRR.
  • Statutory Liquidity Ratio (SLR): Banks are required to set aside this portion in liquid assets such as gold or RBI approved securities such as government securities. Banks are allowed to earn interest on these securities.
  • Open Market Operations (OMO): In order to control money supply, the RBI buys and sells government securities in the open market. These operations conducted by the Central Bank in the open market are referred to as Open Market Operations.
  • Bank rate:The interest rate at which RBI lends long term funds to banks is referred to as the bank rate.
  • Liquidity Adjustment Facility (LAF): RBI uses LAF as an instrument to adjust liquidity and money supply. The following types of LAF are:
  • Repo rate:Repo rate is the rate at which banks borrow from RBI on a short-term basis against a repurchase agreement. Under this policy, banks are required to provide government securities as collateral and later buy them back after a pre-defined time.
  • Reverse Repo rate:It is the reverse of repo rate, i.e., this is the rate RBI pays to banks in order to keep additional funds in RBI. It is linked to repo rate in the following way:
  • Marginal Standing Facility (MSF) Rate:MSF Rate is the penal rate at which the Central Bank lends money to banks, over the rate available under the rep policy. Banks availing MSF Rate can use a maximum of 1% of SLR securities.
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