• What is Monetary Policy
• Objective of Monetary Policy
• Types of Monetary Policy
• Instruments/Tools of Monetary Policy
WHAT IS MONETARY POLICY
Monetary policy is that policy of government which
corrects the situation of excess and deficient
demand by regulating interest rate and availability of
credit in the economy.
• It is also called as Credit Policy.
• It is made by the RBI twice in a year ; April and
• The main objective of credit policy is to maintain
price stability(i.e to control inflation rate).
• To ensure the economic stability at full employment
or potential level of output.
• To achieve price stability by controlling inflation and
• To promote and encourage economic growth in the
• It is also known as Tight Monetary Policy.
• This policy tends to curb the inflation by reducing
money supply in the economy.
• Slow economic growth with high interest rate.
• Borrowing money will become harder and more
expensive which decreases the investment and
spending by the consumers and the business.
• It is also known as Easy Monetary Policy.
• It tends to increase growth by increasing money
supply in the economy.
• The cost of borrowing money goes down in hopes
that investment and spending will go up.
These instruments direct or restrict the flow of credit
to specified areas of economic activity.
Various instruments are:
• Margin Requirement
The margin requirement of loan refers to the
difference between the current value of the security
offered for loans and the value of loan granted.
• Rationing Of Credit
Rationing of credit refers to the fixation of credit
quotas for different business activities. The central
bank fixes the credit quota and the commercial
banks can not exceed the quota limits while
• Direct Action
The central bank may initiate direct action against
the member banks in case these do not comply
with its directives.
It include derecognition of a commercial bank as a
member of the country’s banking system.
• Moral Suasion
Sometimes the central bank makes the member
banks agree through persuasion or pressure to
follow its directives on the flow of credit.
Quantitative instruments are those instruments which
affect the overall supply of money/credit in the
economy. The various instruments are:
• Bank Rate
Bank rate is that discounting rate at which RBI
discounts the eligible bills of commercial banks.
1. In inflation bank rate should be more.
2. In recession bank rate should be less.
• Open Market Operations
It means buying and selling of government
securities in the open market by the RBI.
1. In inflation RBI should sell more and more
securities to the public.
2. In recession RBI should buy more and more
securities from the market.
• Cash Reserve Ratio
It is the minimum percentage of commercial bank
total deposits kept with the RBI.
1. In inflation CRR should be more.
2. In recession CRR should be less.
• Statutory Liquidity Ratio
Every bank is required to maintain a fixed
percentage of its assets in the form cash/liquid.
This ratio is fixed by the RBI and currently SLR is 23%.
1. In inflation SLR should be more.
2. In recession SLR should be less.
• Repo Rate
It is a rate at which commercial banks are borrowing
either from RBI or from any other bank by keeping
eligible bills as a collateral with the promise that it
will repurchase these bills after a specific period.
1. In inflation Repo Rate should be more.
2. In recession Repo Rate should be less.
As of 1 april 2014, the key indicators are:-
INDICATOR CURRENT RATE
BANK RATE 9%
REPO RATE 8%
REVERSE REPO RATE 7%