Monetary policy

CONTENT
Sr. No. Topic Page No.
1. Introduction to Reserve Bank of India 1
2. Objective of Reserve Bank of India 3
3. Function of the Reserve Bank of India 5
4. Introduction to Monetary Policy 10
5. Meaning and Monetary Policy Content of 12
6. How s the Monetary Policy is different from Fiscal
Policy?
15
7. Objectives of Monetary Policy 17
8. Role of Monetary Policy in Developing Economy 19
9. Scope Monetary Policy in under-develop countries 22
10. Efficiency of Monetary Policy 24
11. Limitation Monetary Policy 29
12. Major Issue of Indian Monetary Policy in Retrospect
and Prospect
33
13. Instruments Monetary Policy 36
14. A Capsule of Monetary policy and Credit Control
Measures 1994-95
41
15. Highlights of Monetary policy 44
16. Current Scenario 46
18. A Visit in Reserve Bank of India 48
19. A Visit in Central Bank 50
20. Conclusion 51
21. Bibliography 52

Executive summary
Introduction
The bi-annual Monetary and Credit Policy is a statement that determines the
supply of money in the economy and the rate of interest charged by banks.
Through this policy, the Reserve Bank of India seeks to ensure price
stability for the economy.
Economic reforms initiated in India since mid 1991 also encompassed
reforms in monetary and credit policy of the Reserve Bank of India. Hence
the reforms in monetary and credit policy were introduced to operate in a
market oriented financial system.
Importance and significance of Monetary Policy
The monetary and credit policy gains importance to individuals due to
announcements in the interest rates. Earlier, depending on the rates
announced by the RBI, the interest costs of banks would immediately, either,
increase or decrease.
A reduction in interest rates would force banks to lower their lending
rates and borrowing rates. So if you want to place a deposit with a bank or
take a loan, it would offer it at a lower rate of interest.
Rational of the study
• The study enables us to know about the reforms that to play in the
monetary and credit policy.
• It leads to overall knowledge development
• It helps to improve research ability.

Hypothesis
The hypothesis being put forth for this study about reforms in
Monetary and Credit policy the Monetary Policy are to maintain price
stability and ensure adequate flow of credit to the productive sectors of the
economy. The monetary policy affects the real sector through long and
variable periods while the financial markets are also impacted through short-
term implications.
Expected Contribution
Expectations from the study are that it may contribute of monetary
and policy as part of financial sector reforms, a number of steps have been
taken to enhance the effectiveness of monetary policy, and these include,
improvement in the payments and settlement systems, development of
secondary market in government securities with a diversification of investor
base, reduction in non-performing assets, introduction of ALM guidelines,
and reduction in the overall transactions costs. In particular, the recent
initiatives of RBI to develop money market and debt markets should
contribute to improving the transmission mechanisms of monetary policy.

Introduction to Reserve Bank of India
The Reserve Bank of India is the apex financial institution of the country’s
monetary system. The Reserve Bank of India is a Banker’s Bank.
The Reserve Bank of India (RBI), as India’s central bank, was established on
1st
April, 1935 under the Reserve Bank of India Act, 1934.
Origin of the RBI
There has been a long series of efforts to establish a central bank in our country.
The earliest attempt may be tracked to 1773, when Warren Hastings, the Governor
of Bengal(later Governor General), felt the need for a central bank in the country
and recommended that a “General Bank” in Bengal and Bihar be founded. The
Report of the Chamberlain Commission in 1913 also raised the issue of the
founding of a central bank in the country. As a supplement to this report, Professor
J.M. Keynes chalked out into effect, owing to the outbreak of the First World War.
In 1921, the Imperial Bank of India was set-up by the amalgamation of the
three Presidency Banks, which performed a few central banking functions, though
primarily it reminded as a commercial bank. Specifically, the Imperial Bank as a
banker to the government and in some capacity as banker’s bank till the
establishment of the Reserve Bank of India in 1935.
The founding of central bank of India was again stressed by Royal
Commission on Indian Currency and Finance (popularly known as the Hilton-
Young Commission) in 1926. The Commission suggested the name “Reserve Bank
of India” for the country’s central bank. In January 1927, a bill to this effect was
introduced in the Legislative Assembly, but was dropped on constitutional
grounds. In 1931 the Indian Central Banking Enquiry Committee made
recommendation for the establishment of a Reserve Bank.

The question of starting a central bank in the country again received serious
attention with the publication of White Paper on Indian Constitutional Reforms. It
insisted that the British make the transfer of responsibility from the Central
Government of Indian hands provides a Reserve Bank, free from political
influences, is founded and it operated successfully. Eventually, a fresh bill to this
effect was introduced in the Legislative Assembly ON September 8, 1993. The bill
was passed and received the assent of the Governor-General on March 6, 1934 and
became the Reserve Bank of India Act, 1934.

Objectives of RBI
The preamble to the Reserve Bank of India Act, 1934 spells out the
objectives of the Reserve Bank as: “to regulate the issue of Bank notes and the
keeping of reserve with a view to securing monetary stability in India and
generally to operate the currency and credit system of the country to its
advantages.
Prior to the establishment of the Reserve Bank, the financial system was
totally inadequate on account of the inherent weakness of the dual control of
currency by the Central Government and of credit by the Imperial Bank of India.
The RBI regulates the financial policy and develops banking facilities throughout
the country. Hence, the Reserve Bank of India was established with this primary
object in view.
Another object of the Reserve Bank has been to remain free from political
influence and be in successful operation for maintaining financial stability and
credit.
The fundamental object of the Reserve Bank of India is to discharged purely
central banking functions in the Indian money market, i.e., to act as the note-
issuing authority, banker’s bank and banker to government, and to promote the
growth of the economy within the framework of the general economic policy of the
government, consistent with the needs of price stability.
A significant object of the Reserve Bank of India has also to assist the
planned process of development of Indian economy. Besides the traditional central
banking functions, with the launching of the five-year plans in the country, the
Reserve Bank of India has been moving ahead in performing a host development
and promotional functions, which are normally beyond the purview of a traditional
central bank.

The Reserve Bank of India, as such, aims at the promotion of monetisation
and monetary integration of the economy, filling in the “credit gaps” in the
financial infrastructure, creating to the financial needs of the economy with
appropriate sectorial allocation, as well as supporting the planners in the efficient
and productive deployment of investible funds with a view to attain the macro-
economic goals of maximization of growth with stability and social justice.

Function of the RBI
The Reserve Bank of India performs all the typical functions of a good
central bank. In addition, it carries out a variety of developmental and promotional
function attuned to the course of planning in the country.
Its major functions may be stated as follows:
1. Issuing currency notes, i.e., to act as a currency authority.
The Reserve Bank has the sole right to issue currency notes, except one
rupee notes which are issued by the Ministry of finance. The RBI follows a
minimum reserve system in the note issue. Initially, it used to keep 40
percent of gold reserves in its total assets. But, since 1957, it has to maintain
only Rs. 200 crores. As such, India has adopted the “managed paper
currency standard.”
As currency authority, the Reserve Bank provides different
denominations of currency for facilitating the transactions of the Central and
State Governments, and caters to the exchange an remittance needs of the
public, banks as well as the Governments departments.
2. Serving as banker to the government.
The Reserve Bank of India serves as a banker to the Central Government
and the State Government. It is obligatory function as a central bank. It
provides a full range services to these Governments, such as:
• Maintaining and operating of deposit accounts of the Central and State
Governments.
• Receipts and collection of payments to the Central and State
Governments.

• Making payments on behalf of the Central and State Governments.
• Transfer of funds and remittance facilities to the Central and State
Governments.
• Managing the public debt and the issue of new loans and Treasury
Bills of the Central Governments.
• Providing ways and means for advances to the Central and State
Governments to bridge the interval between expenditure and flow of
receipts of revenue. Such advances are to be repaid by the government
within three months from the date of borrowal.
• The Reserve Bank represents the Government of India as member of
the International Monetary Fund and the World Bank.
3. Acting as banker’s bank and supervisor.
The Reserve Bank of India serves as a banker to the scheduled commercial
banks in India. All the scheduled commercial banks keep their accounts with
the Reserve Bank. The Reserve Bank of India also serves as ‘a lender of last
resort’ rediscounting eligible bills of exchange of commercial banks during
the period of credit stringency. The bank can, however, deny rediscounting
facility to any bank without assigning any reason therefore.
Apart from the bankers’ bank, the Reserve Bank is also entrusted with
the responsibility of commercial banks. Under the Reserve Bank of India
Act the Banking Regulation Act, 1949, the Reserve Bank of India has been
vested with a wide range of powers of supervision an control over
commercial and co-operative banks.

4. Exchange management and control.
Under Section 40 of the Reserve Bank of India Act, it is obligatory for the
bank to maintain the external value of the rupee.
The Reserve Bank of India is the custodian of the country’s foreign
exchange reserves. It has authority to enter into foreign exchange
transactions both on its own and on behalf of the Government. It is
obligatory for the bank to sell and buy currencies of all the member
countries of the International Monetary Fund to ensure smooth and orderly
exchange arrangements and to promote a stable system of exchange rates.
The Reserve Bank of India has restored to the technique of exchange
control to allocate its limited foreign exchange resources according to a
scheme of priorities.
In India, exchange control was introduced under the Defence of India
Rules in September, 1939. It was, however, statutorily laid down by the
Foreign Exchange Regulation Act of 1947. This has been again stipulated by
the Foreign Exchange Regulation Act of 1973.
5. Collection of data their publication.
The Reserve Bank of India collects statistical data and economic information
through its research departments. It complies data on the working of
commercial and co-operative banks, on balance of payments, company and
government finances, security markets, prices trends, and credit measures.
The bank is the principal sources of certain financial statistics and
banking data. It publishes a monthly bulletin, with weekly statistical
supplements and banking reports which present a good deal of periodical
review and comments pertaining to general economic, financial, and banking
developments, including the bank’s monetary policies and measures,
adopted for the qualitative and quantitative monetary management.

6. Miscellaneous development and promotional functions and
activities.
The function of the Reserve Bank of India are multi-dimensional. The bank
performs a number of developmental and promotional functions. Apart from
credit regulation, the Reserve Bank effectively channelises credit, especially
to priority sectors, such as, agriculture, exports, transport operations, and
small scale industries. It makes institutional arrangements for rural and
industrial Development Bank of India has been set-up to solve the allied
problems of industries.
The bank also assists the government in its economic planning. The
bank’s credit planning is devised and coordinated with the five-year plans of
the country. The Reserve Bank of India has also assisted the emergence an
growth of development banking and other term-lending institutions, such as
the Unit Trust of India (UTI).
7. Agricultural finance.
The Reserve Bank of India in a developing economy like nay be regarded as
an engine of growth. It not only regulates bank finance, but deliberately
promotes development finance. It has made special efforts in catering to the
growing financial needs of agriculture, industry and exports sectors of the
country.
Agriculture is the king-pin of India’s rural economy. Thus, rural credit
– agricultural finance – is the pre-requisite of agricultural growth and
development.
Since the inception of planning in our country, the Reserve Bank of India
has been paying specific, attention to promoting rural/agricultural finance.

8. Industrial finance.
Rapid industrialization is the key to accelerating economic growth and
development. Pre requisite of industrial development are M’s: Men,
Materials, Machines, Management and Money. Of these money, s the
primary essential. Money in industry comes from industrial finance. Rapid
industrial development, thus, necessitates an adequate supply of short-term
and long-term finance for the purposes of industry’s fixed and working
capital.
The industrial sector comprising large and medium scale industries s
usually urban-oriented. It relies on institutional sources of finance. It resorts
to the money market as well as the capital market to secure the required
financial assistance. In the Indian economy, small scale industries also have
a strategic role to play. Small scale industry s confined to urban, semi-urban
as well as rural areas. Small an large industries have their typical borrowing
needs – short-term as well as long-term credit.
It s gratifying to note that the Reserve Bank has played a significantly
active role in the development of institutional agencies for providing
industrial finance in the country. The Reserve Bank of India made
commendable efforts for broadening the domestic capital market for
providing the medium and long-term finance to the industrial sector.
9. Export finance.
“Export or perish” has become a slogan for the developing economies,
including India, in recent years. India is keen on expanding its exports. The
Government of India has devised liberal policies for encouraging and
expanding exports by offering a number of concessions to the exporting
industries.
Growth of exports needs liberal and adequate export credit.

Introduction to Monetary Policy
Monetary policy plays a crucial role in molding the economic character of
country because money and credit in a modern economy exercise a vital influence
upon the course, nature and volume of economic activities. An appropriately
conceived monetary policy can significantly aid economic growth by adjusting the
money supply to the needs of growth by directing the flow of funds into the
desired channels and by making institutional credit available to the specific fields
of economic pursuit. Monetary policy can also help in correcting the economic ills
of the economy such as inflation or deflation.
In short, monetary policy is an important economic tool which can be used
to attain many macro-economic goals. Monetary policy refers to “the use of
instruments within the control of the central bank to influence the level of
aggregate demand for goods and services by regulation of the money supply and
credit.
The Reserve Bank seeks to control and regulate the flow of credit in the
economy such that it can sustain the tempo of development and promote the
maintenance of internal price stability. It uses quantitative controlling weapons,
such as bank rate policy, open market operations, and the reserve ratio
requirement. Since 1956, it has increasingly relied on and resorted to selective
credit controls for accelerating the rate of growth and for checking inflationary
spurts.
With the laps of time, the scope of monetary policy in the country has been
considerably widened to make adequate adjustments in the money credit structure
in view of the changing needs of the developing economy envisaged under the
Five Year Plans.

When is the Monetary Policy announced?
Historically, the Monetary Policy is announced twice a year - a slack season
policy (April-September) and a busy season policy (October-March) in
accordance with agricultural cycles. These cycles also coincide with the
halves of the financial year.
Initially, the Reserve Bank of India announced all its monetary measures
twice a year in the Monetary and Credit Policy. The Monetary Policy has
become dynamic in nature as RBI reserves its right to alter it from time to
time, depending on the state of the economy.

Meaning and content of Monetary Policy
The monetary policy is the policy statement, traditionally announced twice
a year, through which the Reserve Bank of India seeks to ensure price stability
for the economy. It involves changed in the base rate of interest to influence the
rate of growth of aggregate demand, the money supply and ultimately price
inflation.
Monetarist economists believe that monetary policy is a more powerful
weapon than fiscal policy in controlling inflation. Monetary policy also involves
changed in the value of the exchanged rate since fluctuations in the currency
also impact on macroeconomic activity (incomes, output and prices).
Definition
Monetary policy is usually defined as the central bank’s policy pertaining
to the control of the availability, cost and use of monetary and credit with the
help of monetary measures in order to achieve specific goals.
Prof. Wrightsman defines monetary policy as “the deliberate effort by the
central bank to control the money supply and credit condition for the purpose of
achieving certain broad economic objectives.”
In essence, monetary policy is an art – the art of central banker in
monetary management.
In the Indian context, monetary policy comprise those decisions of the
government and the Reserve Bank of India which directly influence the volume
and composition of money supply, the size and distribution of credit, the level
and structure of interest rates, and the direct and indirect effects of these
monetary variables upon related factors such as savings and investments and
determination of output, income and price.

Monetary policy is only a means to an end and not an end in itself. The aims,
objectives and scope of monetary policy are conditioned both severally and
collectively by the economics environment and philosophy of time. Monetary
policy has to be structured and operated within the institutional framework of the
money market of the country.
Traditionally, credit control measures and decisions are the constituent
elements of a monetary policy.
Monetary and credit policies operate on the following inter-related
factors:
• Availability of credit and its flow;
• Volume of monetary;
• Cost of borrowings, that is, the rate of interest, and
• General liquidity of the economy.
There are two facets of monetary policy in a developing economy: (1)
positive, and (2) negative. In its positive aspects, it sets out the promotional role
of central banking in improving the savings ratio and expanding credit for
facilitating capital formation. In its negative approach, it implies a regulatory
phase of restricting credit expansion, and allocation according to the absorbing
capacity of the economy.
• Monetary Policy and the Exchange Rate
There is no official exchange rate target for the British economy. The
UK has operated a free-floating exchange rate since we suspended our
membership of the European exchange rate mechanism in September 1992

and although the Monetary Policy Committee has occasionally discussed the
relative merits and de-merits of intervening in the current markets to
influence the external value of the pound, the Bank has not done so for over
a decade. There are in any case severe doubts about the effectiveness of
direct intervention in the foreign exchange markets.
• Monetary Policy and Money Supply Targets
There are no specific targets for the growth of the money supply (M0,
M4) – although data on the growth of the stock of money provides useful
information for the MPC on the strength of aggregate demand. Interest rates are
not determined with reference to specific targets for the money supply. There are
no supply-side controls on the growth of bank lending/credit instead monetary
policy in the UK is designed to control the growth in the demand for money
through changing the cost of loans and influencing the incentive to save.

How is the Monetary Policy different from the Fiscal Policy?
1. Two important tools of macroeconomic policy are Monetary
Policy and Fiscal Policy.
2. The Monetary Policy regulates the supply of money and the
cost and availability of credit in the economy. It deals with both the
lending and borrowing rates of interest for commercial banks.
3. The Monetary Policy aims to maintain price stability, full
employment and economic growth.
4. The Reserve Bank of India is responsible for formulating and
implementing Monetary Policy. It can increase or decrease the supply
of currency as well as interest rate, carry out open market operations,
control credit and vary the reserve requirements.
5. The Monetary Policy is different from Fiscal Policy as the
former brings about a change in the economy by changing money
supply and interest rate, whereas fiscal policy is a broader tool with
the government.
6. The Fiscal Policy can be used to overcome recession and
control inflation. It may be defined as a deliberate change in
government revenue and expenditure to influence the level of national
output and prices.
7. For instance, at the time of recession the government can
increase expenditures or cut taxes in order to generate demand.

8. On the other hand, the government can reduce its expenditures
or raise taxes during inflationary times. Fiscal policy aims at changing
aggregate demand by suitable changes in government spending and
taxes.
9. The annual Union Budget showcases the government's Fiscal Policy.

Objectives of the Monetary Policy
The objectives are to maintain price stability and ensure adequate flow of
credit to the productive sectors of the economy. Stability for the national
currency growth in employment and income are also looked into. The monetary
policy affects the real sector through long and variables periods while the
financial markets are also impacted through short-term implications.
The objective of monetary policy must be regarded as being part of the
overall economic objectives to be pursued by the government. Monetary policy
should be directed to achieve different objectives, depending on the environment
and the time factor. In the Indian context the prime objective of reasonable price
stability.
Monetary policy, being a part of public policy, is obviously designed and
directed to achieve different macro-economic goals, depending on the basic
problems and the nature of economy of the country, from time to time.
During the course of planning, the monetary policy of India aimed at
the following objectives:
To promote savings and tap potential savings.
To mobilize savings for capital formation and for the growth of investment
projects.
(i) To provide incentives to investment and, thus, to prepare an
investments climate
(ii) Conductive to the fulfillment of plan objectives.
(iii) To provide extensive credit to cater to the growing needs of
agricultural, industry, trade, commerce and other productive
activities, thereby promoting on overall economic growth.

(iv) To curb the inflationary spiral. To maintain an appropriate structure
of relative prices and general price stability.
(v) To permit growth without any financial impediments.
In a developing economy like that of India, the monetary policy has to be,
therefore, both promotional and regulatory. It should smoothen the process of
economic growth and accelerate it through adequate credit expansion, but at the
time, the inflationary impact of extensive credit generation should be checked.
Monetary policy should intimate the process of monetisation of the economy by
creating additional flow of money. In an expanding economy, the additional
money supply may prove helpful for activising unutilized resources and
unemployed labour into productive activity.
Monetary policy can significantly assist in the institutionalization of savings
and investment in a developing economy. The Reserve Bank of India, as
such, assumes an important role in initiating, promoting and regulating
banking and financial intermediaries in the country. Again, it has a vital role
to play in checking inflationary forces that are released through the methods
of financing involved in the process of development.
There are four main 'channels' which the RBI looks at:
• Quantum channel: money supply and credit (affects real output and
price level through changes in reserves money, money supply and
credit aggregates).
• Interest rate channel.
• Exchange rate channel (linked to the currency).
• Asset price.

Role of Monetary Policy in a Developing Economy
In modern times, any newly-developing country may be concerned with the
problem of how to use the monetary policy successfully to
stimulate economic growth. In an under-developed country, the
monetary policy has to play a vital role in developing the
economy from a stage of primary backwardness to a stage of
self-sustained growth. It should be noted, however, that the
monetary policies and measures of developed countries are not
always readily applicable as solutions to the typical problems
facing newly developing countries. Monetary policy which is
one thing in an advanced economy may be quite another in an
under-developed economy. Thus similar course of action cannot
be appropriated to both types of countries. Naturally, the
economic ends and means and conditions of developed and
developing nations are bound to be different, and hence the role
of monetary policy should also vary in both cases. Advanced
countries of today can afford the luxury of debating whether full
employment should take precedence over price stability or
whether the aim should be to achieve internal or external balance
at the expenses of growth. However, poor countries cannot at any
time think of anything but the policy of promoting rapid
economic growth.
Under the growth-oriented monetary policy, monetary management by
the central bank becomes a strategic factor of development in an under-
developed country on the following counts:

1. When the country aspires for rapid economic development, it adopts
economic planning. In the process, financial planning needs the
support of credit planning and appropriate monetary management.
2. Under developed countries are most susceptible to inflation. Inflation
in an under-developed economy generally occurs when there is an
abnormal increases in the effective demand exerted mainly by huge
government expenditures under the planning process. However, the
maintenance of stability in the domestic price level and a fixed,
realistic exchange rate are very essential preconditions for achieving a
maximum rate of sustained economic growth. This needs an
equilibrium of savings and investments. In an under-developed
country, however, since the rater of savings is very low, government
is usually tempted to raise the level of investment by means of credit
expansion and deficit financing. The monetary policy requires special
attention in a country which seeks to bring about rapid economic
growth with controlled inflations.
3. Above all, the growth objective of monetary policy in under-
developed countries implies the promotional role of monetary
authorities. Briefly, the promotional role of the monetary authority in
an under-developed country many be to improve the efficiency of the
banking system as a whole or extend sound credit where needed and
to respond promptly to changing conditions.
In short, monetary policy of a developing nation has an important role in
the creation, working and expansion of financial institutions.
1. Thus, it is an important task of the monetary authority to improve the
conditions of unorganized money and capital markets in poor
countries in the interest of rapid economic development and the
successful working of monetary management.

2. Moreover, an important function of monetary policy in an under-
developed economy is to have an also to make use of a most suitable
interest rate structure.
3. Public debt management responsibility also lies with the monetary
authority of the country. In a growing economy, thus, it is a very
important and difficult task.
4. Under-developed countries are characterized with 20-30 percent of
non-monetised sector. Hence, it is the prime duly of the monetary
authority to extend the process of monetisation in these barter sections
of the economy. This will tend to improve the working and
effectiveness of the monetary policy.

Scope of Monetary Policy in Under-developed Countries
1. The scope of monetary policy in under-developed countries is
extremely limited, compared to that in advanced countries for the
following reasons:
2. The money market is unorganized in an under-developed country and
therefore, the monetary management of the central bank cannot be
perfect.
3. In most of the under-developed nations, money supply primarily
consists of currency in circulation while bank deposits from relatively
a small proportion of it. Lack of banking habits on the part of the
people in poor countries makes it difficult for the monetary authority
to influence the economy by controlling the banking system.
4. Changes in bank rate or other monetary instruments are proved to be
ineffective in under-developed countries also on account of the
existence of a vast non-monetised sector in their economies.
The above stated factors impose a limit on the scope of monetary policy
in under-developed countries. However, this does not mean that monetary
policy has no role to play at all. Despite its various limitation, the monetary
policy in an under-developed country can greatly assist economic growth
“by influencing the supply and use of credit, combining inflation and
maintaining the balance of payment equilibrium.” It has been argued that
since the bulk of money supply in an under-developed economy is in the

form of currency rather than bank deposits, the central bank can regulate
with greater efficiency the rate of spending by controlling the currency as
such.
Monetary policy and management have an active role to play in a
scheme of planning for economic development in an under-developed
country. It would have to take on a direct and active role firstly, in
increasing or helping to create the machinery needed for financing
development activities all over the country, and secondly, in ensuring that
the finance available flows in the direction intended. Briefly, thus, the
monetary policy in an under-developed economy has to be used to activise
the growth process and to create favourable conditions for fostering
economic development with reasonable stability

Efficiency of Monetary Policy
It is generally conceived that monetary policy is more effective in checking
economic activity than in stimulating it. In other words, monetary policy is
more effective in checking boom conditions than in generating recovery
from recession or depression. In times of depression or stagnation, the
monetary authority can do very little. It cannot enforce investment merely by
following an easy money policy or credit expansion as such. It can control
the money rate of interest to some extent but not the rate of profit which may
be a very low or even in a negative quantity during a depression. Investment
generally seems to be interest inelastic.
The interest- inelasticity of investment can be explained on two counts.
a. Interest represents a minor element of total costs in short-term
investments,
b. In making long-term investments, business expectations and other
economic variables are far more important than the influence of
interest rates.
Thus, when there is overall pessimism prevailing in the economy and the
marginal efficiency of capital is very low, mere monetary expansion by the
monetary authority cannot do anything substantial. Moreover, there is no
direct relationship between the quantity of monetary and the price level as
was traditionally assume. There are many other factors affecting prices and
business activity as powerfully as the mone7y supply. Most of them being
non-monetary in nature, cannot be controlled by monetary action alone.

Depression needs action to revive effective demand by raising the
consumption and marginal efficiency of capital through public investment
programmes and such other measures. Hence, fiscal policy was advocated as
a powerful weapon for offsetting and checking depression and
unemployment. Only in times of prosperity can monetary policy be used
effectively, as it can control speculative boom and inflation by regulating
undue credit expansion, Thus, it seems that monetary policy is admirably
suited to situations requiring the restraint of inflationary pressures of
requiring high short-term interest rates to lessen the flow of capital for
reducing a deficit in the balance of payments.
In formulating an effective monetary policy, the following two points
should be born in mind:
• The magnitudinal dimension, and
• The time dimension.
The strength of the monetary policy is measured by its magnitudinal
dimension; while the lag involved in its effectiveness is measured by the
dimension of the policy.
Again, the strength of monetary policy is determined by the elasticity as
well as the degree of stability of functional relations – monetary and real – in
the economy. It has been observed that the strength of the monetary policy is
inversely related to the interest rate elasticity of demand for real assets.
Thus, when low elasticity of demand for money is combined with high
elasticity of demand for real assets, the monetary policy will have a stronger
effect. In such cases, a large percentage change in the demand for real assets;
that there will be a larger change effected in output of goods and services in

order to correct the resulting sizable discrepancy between the desired and
actual holdings of real assets.
The monetary authority, however has to learn from its past experience to
judge the size of the magnitudinal effect of its operations. Nowadays,
econometric models are also being constructed to estimate the effectiveness
of a monetary policy. A correct knowledge of magnitudinal effect is,
however, very much helpful on prescribing the correct dosage of monetary
policy according to the requirement of the prevailing circumstances.
Similarly, the knowledge of time dimension of a monetary policy if of great
help in prescribing the appropriate timing of the policy action. The time
dimension factor measures the lags involved in the working of monetary
policy.
There are a number of such lags:
• The action:- A lag between the time when a need for a policy change
is recognized and the actual change effected;
• The credit market lag:- A lag between the time when monetary
policy is changed and the time when such change leads to changes in
important monetary variables like interest rates, the supply of money
and other financial assets;
• Recognition lag;- a lag between the time when change in policy is
required and the time when this essentiality is recognized;
• The output lag:- the lag between the time when the monetary and
financial market conditions change and the time when these changes
bring about changes in the real income and output. The first two types
of lags are described as “ inside lag”, and the last two are called “ the
outside lag” of monetary policy.

The outside lag in the effect of monetary policy is a distributed lag. The
effect of monetary policy on prices, income, employment, etc., cannot be
perceived at a moment of time; it is, however, distributed over a span of
time. Whenever a monetary policy is changed its effect its may be generated
immediately but it tends only after a sufficiently long period of time.
However, a long lag is not good as it impairs the effectiveness of monetary
policy. Under a longer lag, the effect of a change in monetary policy cannot
be set according to need, as the effect will not be predictable with certainty.
Thus, under a long and variable time lag, discretionary monetary policy’s
efficacy is very much doubted.
In order to produce desired changes in the economic activity, the
central bank pursue a monetary policy to bring about changes in the quantity
of monetary and credit there by to case changes in the flow of spending
which influences the level and mode of economic activity. The central bank
in this regard usually adopts monetary measures of credit control such as
bank rate policy, etc., which affect the flow of bank credit on the economy.
Modern monetarists, however, feel that this is not enough. The central bank
must aim at influencing the total volume of liquidity rather than the quantity
of money alone to bring forth effective results. It has been contended that the
fundamental object of monetary action of the central bank is to change the
level of aggregate demand by influencing the community’s rate and volume
of spending.
In short, the decision to spend depends on a host of factors like:
• Cash balance
• Bank balance
• withdrawal of time and saving deposit,

• selling of financial assets held.
Thus, as the Radcliffe Report put, “the spending is not limited by the
amount of money in existence, but it is related to the amount of money
people think they can get hold of whether by receipts of income, by disposal
of capital assets or by borrowing. In this context, obviously the whole
structure of interest rates comes into consideration, as an interest rate
change affects the liquidity of the various groups of financial institutions
which in turn affects the liquidity of others – thus, “general liquidity”. Thus,
it has been advocated that the centerpieces of the monetary mechanism is the
structure of interest rates of the “general liquidity” of the whole economy
rather than the supply of money. A rise in interest rates will slacken their
lending activities by improving capital losses on their asset holding. Thus, a
rise in the interest rates depresses aggregate spending indirectly by reducing
the lending of finance institution and so liquidity of the public in general.
Thus, in the liquidity approach, the aim of monetary policy is shown to
not the regulation of the quantity of monetary but the control of the general
liquidity position of business, banks and other financial institutions. It is,
therefore, widely accepted that the central bank should be concerned with
the total credit and liquidity structure of the economy, and not merely with
the size and behaviour of money supply.

Limitations of Monetary Policy
Monetary policy has its unique role and significance in a developed or a
developing country. But, it cannot be the be-all and end-all of the system. In view
of its scope and operational aspect, various limitations of the monetary policy may
be stated as under:
 Broad Front.
Monetary policy operates on a board front, giving little consideration to the
bottlenecks or shortage it has to counter, in practice, at a micro level.
Further, it can affect the volume of investment but cannot cause sharp
changes in the pattern of investment through credit controlling measures.
 Structure and Growth of the Banking System.
Since the working of the monetary policy is basically confined to the
banking activity, its success of failure very much depends on the degrees of
development of the banking system, its organization, co-ordination, and
integrated network in the country as a whole.
 Tradition and Statutory Provisions.
The use of policy measures by the monetary authorities in realising the
broad economic objectives may have institutional restrictions due to
tradition and/or statutory-legal rules and regulations governing the banking
system of the country.

 Conflicting Objectives.
When two or more objectives are of a conflicting nature, the monetary
authorities have to reconcile them and while doing so a particular goal may
be pursued, price stability is to be sacrificed to some extent.
 Dichotomy of Monetary Market.
As in the case of under-developed countries, when there is dichotomy of
money market in the composition of money supply also serves as a limiting
factor to the scope of monetary policy. In most of the under-developed
nations, money supply preliminary consists of currency in circulation while
bank deposits form relatively a small proportion of it. Lack of banking
habits on the part of the people in poor countries makes it difficult for the
monetary authority to influence the economy by controlling the banking
system.
 Existence of Non-monetised Sector.
The existence of a significant non-monetised sector tends to restrict the
scope and limits the effectiveness of monetary policy and its measures, as is
the case with many under-developed countries.
 No Direct Influence on Strategic Growth Variables.
Monetary policy deals with the monetary factors like money supply, credit,
rate of interest, etc. But, it cannot directly affect the rate of profit,

investment function, savings, capital formation etc. Which are strategic
growth variables.
 Depression Phase.
Monetary policy is not very effective in overcoming depression. It is
generally conceived that monetary policy is more effective in checking
economic activity than in stimulating it. In other words, monetary policy is
more effective in checking boom conditions than in generating recovery
from recession or depression. In terms of depression or stagnation, the
monetary authority can do very little. It cannot enforce investment merely by
following an easy money policy or credit expansion as such. It control the
money rate of interest to some extent but not the rate of profit which may be
a very low or even in a negative quantity during a depression. Investment
generally seems to be interest inelastic.
The interest inelasticity of investment can be explained on two
counts:
(i) interest represents a minor element of total costs in short-term
investment,
(ii) in making long-term investment, business expectation and other
economic variables are far more important than the influence of
interest rates.
Thus, when there is an overall pessimism prevailing in the economy and
the marginal efficiency of capital is very low, mere monetary expansion by
the monetary authority cannot do anything substantial. Moreover, there is no

direct relationship between the quantity of money and the price level as was
traditionally assumed. There are many other factors affecting prices and
business activity as powerfully as the money supply. Most of them being
non-monetary nature, cannot be control by monetary action alone.
Depression needs action to revise effective demand by raising the
consumption and marginal efficiency of capital through public investment
programmes and such other measures. Hence, a fiscal policy was advocated
as a powerful weapon for offsetting and checking depression and
unemployment. Only in times of prosperity can monetary policy be used
effectively, as it can control speculative boom and inflation by regulating
undue credit expansion.
 General Liquidity.
Most of the economists, today, however, feel that central bank’s
management of stock of money alone is totally inadequate in pursuing goals
like curbing of inflation through effective checks on spendings. In a modern
economy, the capacity to spend and a propensity to consumer basically
determined by the liquidity position rather than just the quantity of money.
Thus, what is wanted is influence the general liquidity structure of the
economy as a whole.
In modern economy, the decision to spend depends on a host of factors
like:
• Cash balance
• Bank balance
• withdrawal of time and saving deposit,
• selling of financial assets held and
• borrowing possibilities

Thus, as the Radcliffe Report put, “the spending is not limited by the amount of
money in existence, but it is related to the amount of money people think they can
get hold of whether by receipts of income, by disposal of capital assets or by
borrowing”.
Major Issues of Indian Monetary Policy in Retrospect and Prospect
Monetary policy in Indian has to designed and pursued in the context of planning
in the mixed economy where the main object is to accelerate the process of
economic growth with stability and social justice.
 The Policy Stances
1. The monetary policy stances during the course of planning in India (1951-
1987) may be stated as follows.
2. During the First Fiver-Year Plan period (1951-56), the role of monetary
policy was confined to the allocation of resources in conformity with the
plan objectives. Initially in 1951, to contain inflationary pressures, the RBI
raised the bank rate from 3 percent to 3.5 per cent in November 1951.
3. During the Second Plan period (1956-61), the policy was more or less anti-
inflationary. The bank rate was raised further to 4 per cent in May 1957 and
the selective credit control scheme was introduced in May 1956.
4. During the Period of Third Plan (1961-66) and Annual Plans(1966-69), the
RBI adopted a credit policy of restraint. It raised the bank rate further to 4.5
percent in January 1963, to 5.0 per cent in October 1964 and again to 6.0
percent in March 1965. The Credit Authorisation Scheme was introduced. In
1964, a system of differential interest rates (CDIR) was also introduce. The
SLR was raised from 20 per cent to 25 per cent.

In 1969, the Government of India nationalized the major commercial
banks, thereby bringing nearly 85 percent of the banking activity in the hands
of the public sector.
1. During the Fourth Plan (1969-74) period, the restrictive credit control
measures were adopted very sharply. The Net Liquidity Ratio (NLR) was
stipulated from 31 per cent to 34 per cent between April 1970 and January
1971. The SLR was enhanced to 30 per cent and NLR further to 37 per cent
by March 1973. The Bank rate was raised to 7 per cent and CRR to 5
percent in May 1973. In September 1973, CRR was raised to 7 percent.
2. During the Fifth Plan (1974-79) period, the policy had remained basically
anti-inflationary.
3. During the Sixth Plan period (1980-85), efforts have been continuously
directed towards containing the inflationary pressures. In 1981-82, the SLR
was raised from 34 per cent. It was further raised to 36 percent in September
1984 and again to 37 percent in July 1985. The selective credit controls were
rationalized and simplified.
 Important Observations
Reviewing the course of monetary policy in India, we may make a few
observations as under:
(a) The Reserve Bank of India tried to use a number of traditional as well as
non-traditional monetary measures in the course of its monetary
management.

(b) However, all the instruments of credit have not been boldly and adequately
used for achieving the goal of price and economic stability.
(c) By and large, the monetary policy in India has remained anti-inflationary,
but without much success in achieving its goal. As an anti-inflationary
device, however, the monetary policy in India has not only acted through the
availability of credit but has also adjusted the cost of credit upwards, from
time to time.
(d) As Dr. Rangarajan, the Deputy Governor of the RBI, observes, during the
last 35 years, monetary policy measures in India have generally been a
response to fiscal policy and action. The monetary policy has been
essentially direct towards facilitating Government finance and public debt
management.
(e) In the seventies and eighties, the RBI’s monetary policy concentrated more
on the distributional aspect rather than on the level of total credit in the
banking system. The scope of monetary policy has, therefore, been extended
from a mere regulation of money supply to the distribution of credit in
favour of priority sectors.
(f) Recently, the Chakravarty Committee has recommended a scheme of
flexible monetary targeting as a device for the regulation of money supply in
the economy.
(g) Monetary policy alone cannot deliver the goods in a planned economy like
that of India. There is an urgent for a healthy and pragmatic co-ordination
between monetary and fiscal policies in the context of economic planning of
the country.

Instruments of Monetary Policy
 Bank Rate
Bank rate is the rate which the Reserve Bank of India rediscounts certain defined
bills. The Bank Rate Policy has been defined as ‘the varying of the terms and of
the conditions, in the broadest sense, under which the market may have temporary
accesses to the central bank through discounts of selected short term assets or
through secured advances.
At the very outset it may be pointed out that the Bank Rate Policy has not
been very successful in the past, as from its very inception the Bank had to
maintain a cheep monetary policy under which the Bank Rate was maintained
constantly at 3 per cent. The announcement of the Bank in1951 increasing the
Bank Rate to 3 and half percent marks an important turning point in the bank rate
policy hitherto followed by the Bank.
The Bank announced that it would refrain from purchasing Government
securities to meet the seasonal requirements of scheduled banks but would, as a
normal practice, advance money at the prevailing Bank Rate on Government and
other securities specified in the Reserve Bank of India Act. This was definitely a
new step in the monetary policy pursued by the Bank till 1951. these measures had
the immediate effect of making credit dearer. There was a general increase in the
market rates also. The Bank Rate was further increased to 4 percent with effect
from May 1957. As in the previous change, the market rates responded to this

change. Thus, after a long period of cheap monetary policy, the Bank assumed a
‘flexible interest rate’ policy in the realm of monetary policy, acquiring thereby a
greater measure of control over the banking system than it had ever before.
 Open Market Operations
(i) Open market operations have a direct effect on the availability and
cost of credit. The open market operations policy has two dimensions:
(ii) it directly increases or decreases the loanable funds or the credit-
creating capacity of banks; and
(iii) It leads to changes in the prices of government securities and the term
structure of interest rates.
The Trend of the OMO of the Reserve Bank of India
However, in view of the underdeveloped security market in India, the
Reserve Bank of India has rarely used OMO as a sharp weapon of credit control. In
Year Net Purchased ( )
Or Sales(- )
(Rs, in Crores)
Year
Net Purchased ( )
Or Sales( - )
(Rs. In Crores)
1951-52 11.82 1960-61 - 6.52
1952-53 - 1.20 1961-62 0.81
1953-54 -22.14 1962-63 -11.00
1954-55 -28.00 1963-64 -44.70
1955-56 -15.95 1964-65 -98.60
1956-57 19.17 1965-66 -18.80
1957-58 -65.22 1966-67 -44.40
1958-59 -88.95 1967-68 -38.20
1959-60 -60.33 1968-69 -53.40
1988-89 -136.50

general, open market operations have been used in India more to assist the
government in its borrowing operations and to maintain orderly conditions in the
government securities market than for influencing the availability and cost if
credit.
An account of the open market operations of the Reserve Bank of India has
been presented above table.
It can be seen that, except for the year 1951-52 and 1961-62, in the other
years, the Reserve bank operated with the selling expect of the OMO policy with a
view to checking the lendable resources of commercial banks.
 Cash Reserve Ratios
According to the RBI Act of 1934, scheduled commercial banks were required
to keep with the Reserve Bank of India a minimum cash reserve of 5 percent of
time liabilities.
The Amendment Act of 9556 empowered the Reserve Bank of India to use
these reserve requirement ratios as a weapon of credit control, by warring them
between 5 and 20 percent on the demand liabilities and between 2 and 8 percent on
the time liabilities. This variability in Cash Reserve Ratios (CRR) directly affects
the availability and cost of credit. An increase in CRR leads to an immediate curb
on the excess funds of the banks. When banks credit volume decreases, their profit
quantum also decreases. To maintain the same total profits, a decrease in
profitability is to be compensated by raising threatening rate. Eventually, when the
bank’s lending rates are raised, the cost of credit increases.
Since September 1964, the reserve requirement ratio has been kept at 3
percent by the RBI for all scheduled and non-scheduled commercial banks against
their demand and time liabilities. Since August 1966, scheduled cooperative banks
also have to maintain the same CRR, while non-scheduled state cooperative banks

have to keep 2.5 percent of their demand liabilities and 1 percent of the time
liabilities.
 Money Supply (M3)
This refers to the total volume of money circulating in the economy,
and conventionally comprises currency with the public and demand deposits
(current account + savings account) with the public.
The RBI has adopted four concepts of measuring money supply. The
first one is M1, which equals the sum of currency with the public, demand
deposits with the public and other deposits with the public. Simply put M1
includes all coins and notes in circulation, and personal current accounts.
The second, M2, is a measure of money, supply, including M1, plus
personal deposit accounts - plus government deposits and deposits in
currencies other than rupee.
The third concept M3 or the broad money concept, as it is also known,
is quite popular. M3 includes net time deposits (fixed deposits), savings
deposits with post office saving banks and all the components of M1.
o Debt instruments
Debt instruments are basically obligations undertaken by the issuer of the
instrument as regards certain future cash flows representing interest and
principal, which the issuer would pay to the legal owner of the instrument.
Different kinds of debt instruments are discussed below:
Money market instruments: By convention, the term “money market”
refers to the market for short-term requirement and deployment of funds.
Money market instruments are those instruments, which have maturity

period of less than one year. Money market instruments is their high
liquidity and tradability.
Treasury Bills (T-Bills): These are issued by the Reserve Bank of India on
behalf of the Government of India are thus actually a class of Government
Securities. At present T-Bills are issued in maturity of 14 days, 91 days and
364 days. The RBI has announced its intention to start issuing 182 days T-
Bills shortly.
Government of India Securities: Government of India Securities is issued
by the reserve Bank of India on behalf of the Government of India. These
form a part of the borrowing program approve by Parliament in the Finance
Bill each year (Union Budget). Most of the securities issued have been in the
5-10 year maturity bucket. Very recently, securities of 15 and 20 years
maturity have been issued.

A Capsule of Monetary policy and Credit Control
Measures 1994-95
• Cash Reserve Ratio(CRR) raised in three phases from 14 to 15
percent between June and August 1994.
• Cash Reserve Ratio of 15 percent introduced in two phases on Foreign
currency Non-residents Accounts scheme (Banks) and CRR of 7.5%
imposed on Non-Resident Non-Repatriable Rupee Deposit (NRNR)
scheme.
• The base for determining the export credit (Rupee) refinance limit
shifted by a year and eligibility percentage reduced from 90 to 80%
for post-shipment credit denominated in US dollar.
• Minimum margin on bank advances against pulses, all seeds,
vegetable oil, cotton and kapas raised by 15% points and level of
credit ceiling reduced by 15 percentage points.
• The maximum term deposit rate on Non- Resident (external ) rupee
accounts reduced by one percentage point and minimum maturity for
new deposit raised to six months.
• Banks allowed to hold shares (including PSU equity) or debentures
within overall ceiling of 5 percent incremental deposit of the previous
year.
• General Line of Credit from RBI to NABARD for seasonal
agricultural operations raised to Rs.4,100 corer from Rs.3,700 corer.

• Scope of priority advances extended to include (a) net funds provided
by sponsor banks to RRBs (b) advances up to Rs.5 lakh for
distribution of inputs for agricultural and allied activities and (c)
advance granted to a qualified medical practitioner for purchase of
one motor vehicle.
• Domestic savings deposit interest rate reduced from 5.0 percent
annum to 4.5 percent annum.
• Saving deposit rate reduced from 5.0 percent to 4.5 percent per annum
for Non- Resident( External) Rupee Accounts. The maximum term
deposit rates for NRE accounts for maturity of 6 months to 3 years
and above reduced from 10.0 percent to 8.0 percent from October
1994.
• Bank advances against paddy/rice to all borrowers exempted from all
the provisions of selective credit controls.
• Banks directed to maintain on first 13 days a minimum level of 85
percent of the required fortnightly average CRR balances. On the 14th
of the reporting fortnight banks will be allowed to maintain less than
85 percent so as to adjust the average of daily balances to the required
level.
• The facility of stand-by arrangement against commercial paper(CP)
was abolished. After issuance of CP, if the issuer wish to revive the
earlier level of credit limit, it would have to approach the bank for
enhancement afresh.

• Bank advised to extend cash credit facility to farmers with irrigation
facilities and also to other farmers undertakings off farm/allied
activities.
• The ceilings of Rs. 50 crore for each bank abolished and the limit of
Rs. 200 crore for finance the banking system as of whole raise to Rs.
500 crore, for any project.
• Banks allowed to provider lines of credit/term loans to State Industrial
Development/ Financial Corporation as part of priority sector lending.
• The ceiling on direct individual housing loans raised to Rs.3 lakh to
Rs.10 lakh, and the proportion of investment by way of purchase of
bonds of recognized housing finance institutions raised from 40 per
cent to 50 per cent.
• Banks given the freedom to determine their own policy on margins for
loans granted against deposits.
• Sub-suppliers of export orders to be provided credit within the overall
permissible pre-shipment export credit.

Highlights of Monetary and Credit Policy
The message in the Reserved Bank of India’s annual monetary policy
statement is “focus on continuity”. The major highlights of the Monetary
and Credit policy are as under:
Monetary Policy:
• The reverse repo rate has increased by 25 basis points to 5% and
spread between reverse repo rates and repo rates has reduced to 100
basis points from 125 basis points earlier. This is effective from 29th
April, 2005.
• Bank rate unchanged at 6%.
• Cash reserve ratio remain unchanged at 5%.
• GDP growth projection for 2005-06 at 7% Real GDP growth
projected at 7% on the back of 3% growth in agriculture under
assumption of normal monsoons. Industry and services sector
expected to maintain their current growth momentum while
absorbing the impact of oil prices.
• RBI proposed to shift to quarterly guidance (in January, April,
July and October) from biannual guidance (in April and October,
next review in July 2005). This will ensure that there is better and
structured communication to the market on RBI’s perception of
the changing domestic and global environment and the likely
impact of these in the near term.

Credit Policy :
• Per borrower limit of post harvest / produce pledge loan for
agriculture increased to Rs.10 Lakh from Rs.5 Lakh under priority
sector.
• Emphasis on credit flow to small scale and medium scale industries.
• Overseas investment by corporates in their joint venture s and
subsidiaries increased to 200% of their net worth.
• Reduction in the minimum maturity period for certificate of deposits
(CDs) from 15 days to 7 days.
• Standardization of settlement in gilt trading to T +1 system.
• Banks and primary dealers (PDs) permitted to sell stock on the same
day of auction.
• Introduction of electronic trading platform for repo operations in
government securities.
• With effect from 6th
August, non bank participants except PDs, go
out of the call/notice money market.
• Inflation rate for 2005-06 projected at 5 to 5.5% on account of
upward pressure in international oil and primary commodity
prices, credit growth and non pass through of international oil
prices to domestic prices. Positive cushion expected from an
increase in sectoral productivity, level of food stocks and forex
reserves.
• M3 growth projected at 14.5.% in 2005-06.

Current scenario
Macroeconomic Background:
The Reserve Bank of India (RBI) announced the first Quarterly Review of
the Monetary Policy for 2007-08 on 31stJuly, 2007. The policy was
prepared under the backdrop of an economic scenario which has the
elements of high
growth combined with higher inflationary pressure.
The Review of the Macroeconomic and Monetary Developments for
the First Quarter (April-June) of 2007-08 indicates that overall the Indian
economy is in a healthy position.
The highlights of the Review are as follows.
• The Revised estimates of CSO put the real GDP growth of the economy at
9.4% in 2006-07 as against 9% in 2005-06. Service sector which accounts
for over 60% of the total growth has been posting a sustained double-digit
growth in the past three years. Similarly, the industry which accounts for
nearly 1/5 of the economic growth has posted 11% growth in 2006-07 as
against 8.0% in 2005-06. Agriculture and allied activities which contributed
18.5% of the total growth in 2006-07 increased by 2.7% as compared to
6% in 2005-06.
• The current year has witnessed above normal rain fall (up to July 25)
implying a better performance of the agriculture/rural sector. The first two
months of the current fiscal have seen industry growing at 11.7% and
particularly the manufacturing segment registering a growth of 12.7%.
Similarly, infrastructure (electricity, coal, finished steel, crude petroleum,
petroleum refinery products, cement) sector recorded a growth of

8.1% during the same period as against 7.2% in the corresponding period of
the last year.
• On the fiscal front, all the key deficit indicators of the Central Government
finances were lower than a year ago mainly due to higher tax revenue
collection, higher non-debt capital receipts and lower plan
expenditure.
• Monetary sector indicates that as on 6th July 2007, the year-on-year
growth in broad-money (M3) continues to be higher at 21.6% as compared
to 19% in the previous year. Liquidity conditions in the economy continued
to be influenced by the movements in capital flows and cash balances of the
Government.
• On the price front the Wholesale Price Index (WPI) initially rose to above
6 % in April 2007 but eased to 4.4 % by July 14,2007.Consumer price
inflation also eased to 6.1-7.5 % by June 2007,though it remained
high reflecting the impact of higher food prices.
• The external economy portrays a robust scenario with the country
attracting FDI inflows worth $1.6bn in April 2007 as against $0.7bn. last
year. Up to July 13 of the current year the FIIs have brought in $8bn. against
an outflow of $2bn in the corresponding period of 2006-07. As on 20th July
2007 total forex.

VISIT IN CENTRAL BANK
I had visited in Central Bank and got some information on debt instruments
in monetary policy from Manager B.J. BHAVSAR.
Debt instruments are basically obligations undertaken by the issuer of the
instrument as regards certain future cash flows representing interest and
principal, which the issuer would pay to the legal owner of the instrument.
Different kinds of debt instruments are discussed below:
• Money market instruments: By convention, the term “money
market” refers to the market for short-term requirement and
deployment of funds. Money market instruments are those
instruments, which have maturity period of less than one year. Money
market instruments is their high liquidity and tradability.
• Treasury Bills (T-Bills): These are issued by the Reserve Bank of
India on behalf of the Government of India are thus actually a class of
Government Securities. At present T-Bills are issued in maturity of 14
days, 91 days and 364 days. The RBI has announced its intention to
start issuing 182 days T-Bills shortly.
• Government of India Securities: Government of India Securities is
issued by the reserve Bank of India on behalf of the Government of
India. These form a part of the borrowing program approve by
Parliament in the Finance Bill each year (Union Budget). Most of the
securities issued have been in the 5-10 year maturity bucket. Very
recently, securities of 15 and 20 years maturity have been issued.

CONCLUSION
The Monetary Policy is to maintain price stability and ensure adequate
flow of credit to the productive sectors of the economy. The monetary policy
affects the real sector through long and variable periods while the financial
markets are also impacted through short-term implications.
Monetary and policy as part of financial sector reforms, a number of
steps have been taken to enhance the effectiveness of monetary policy, and
these include, improvement in the payments and settlement systems,
development of secondary market in government securities with a
diversification of investor base, reduction in non-performing assets,
introduction of ALM guidelines, and reduction in the overall transactions
costs. In particular, the recent initiatives of RBI to develop money market
and debt markets should contribute to improving the transmission
mechanisms of monetary policy.
Monetary policy can also help in correcting the economic ills of the
economy such as inflation or deflation.

Monetary policy

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