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Broader role for monetary policy

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  • 1. Broader role for Monetary Policy Gg Sudarshan Kumar Patel Chandan Kumar Ravi
  • 2. EDITORIAL-THE HINDU BUSINESS LINE Date- Friday ,February 3, 2012 Author- K. Kanagasabapathy Director EPW Research Foundation
  • 3. About…………. Monetary Policy Unsustainable sovereign debt Euro crisis 2008-09 crisis Governor – D Subbarao Different Instrument a. Quantitative b. Qualitative Financial stability Public Debt Suistanability
  • 4. Introduction CD Deshmukh The First Indian Governor of Reserve Bank of India (RBI Raghu ram Rajan,Present Governor
  • 5. Unsustainable Sovereign Debt Bonds issued by a national government in a foreign currency, in order to finance the issuing country's growth. Sovereign debt is generally a riskier investment when it comes from a developing country, and a safer investment when it comes from a developed country. The stability of the issuing government is an important factor to consider, when assessing the risk of investing in sovereign debt, and sovereign credit ratings help investors weigh this risk.
  • 6. Monetary policy- Meaning The part of the economic policy which regulates the level of money in the economy in order to achieve certain objectives. In INDIA,RBI controls the monetary policy. It is announced twice a year, through which RBI,regulate the price stability for the economy.
  • 7. Cont………………. Monetary Policy is the process by which the monetary authority of a country controls the supply of money, often targeting the interest rate for the purpose of promoting economic growth and stability . According to Harry G. Johnson “Monetary policy employing the central bank’s control of supply of money as an instrument for achieving the objectives of general economic policy.” 
  • 8. Nature of Monetary Policy • Monetary policy uses a variety of tools (interest rate) to control influence outcome like(economic growth , inflation, exchange rate with other currencies and unemployment). • It controls the supply of money • Monetary policy works through expansion or contraction of investment and consumption expenditure.
  • 9. Objectives of Monetary Policy There are basically three major objectives of monetary Policy. Which are: To ensure price stability.  To encourage economic growth.  To ensure stability of exchange rate of money.
  • 10. Inflation Inflation is a rise in the general level of prices of goods and services in an economy over a period of time. When the price level rises, each unit of currency buys fewer goods and services. A chief measure of price inflation is the inflation rate.When Prices rise the Value of Money falls.
  • 11. STAGES OF INFLATION • 1. CREEPING INFLATION (0%-3%) • 2. WALKING INFLATION ( 3% - 7%) • 3. RUNNING INFLATION • 4. HYPER INFLATION (10% - 20 %) ( 20% and abv)
  • 12. Importance of Monetary Policy • Gross National Product (GNP) = C + I + G + X • Where: C = Private Consumption expenditure • I = Private Investment Expenditure • G = Government Expenditure • X = Net Exports • C, I, X can be influenced by the monetary policy which can also influence the private consumption and investment spending and exports and imports
  • 13. INSTRUMENTS OF MONETARY POLICY • 1. Bank Rate of Interest • 2. Cash Reserve Ratio • 3. Statutory Liquidity Ratio • 4. Open market Operations • 5. Margin Requirements • 6. Deficit Financing • 7. Issue of New Currency • 8. Credit Control
  • 14. Bank Rate of Interest It is the interest rate which is fixed by the RBI to control the lending capacity of Commercial banks . During Inflation , RBI increases the bank rate of interest due to which borrowing power of commercial banks reduces which thereby reduces the supply of money or credit in the economy .When Money supply Reduces it reduces the purchasing power and thereby curtailing Consumption and lowering Prices.
  • 15. Cash Reserve Ratio CRR, or cash reserve ratio, refers to a portion of deposits (as cash) which banks have to keep/maintain with the RBI. During Inflation RBI increases the CRR due to which commercial banks have to keep a greater portion of their deposits with the RBI . This serves two purposes. It ensures that a portion of bank deposits is totally risk-free and secondly it enables that RBI control liquidity in the system, and thereby, inflation.
  • 16. Statutory Liquidity Ratio Banks are required to invest a portion of their deposits in government securities as a part of their statutory liquidity ratio (SLR) requirements . If SLR increases the lending capacity of commercial banks decreases thereby regulating the supply of money in the economy.
  • 17. Open market Operations It refers to the buying and selling of Govt. securities in the open market . During inflation RBI sells securities in the open market which leads to transfer of money to RBI.Thus money supply is controlled in the economy
  • 18. MONETARY POLICY :KEYNESIAN VIEW EXPANSIONARY MONETARY POLICY Problem : Inflation Measures : Measures : 1. 2. 3. TIGHT MONETARY POLICY 1. Central bank buys securities through open market operation It reduces CRR It lowers bank rate 2. 3. Central bank sells securities through open market operation It raises CRR & SLR bank rate It raises maximum margin against holding of stocks of goods Money supply increase Interest rate falls • Money supply decrease Investment increase • Interest rate decrease Aggregate demand increase • Investment expenditure declines • Aggregate demand declines Aggregate output increase • price level falls