RBI’s Monetary Policy

The monetary policy that can alternatively be referred to as the demand side of the monetary policies is actually the set of actions that are undertaken by the Central bank of any nation in order to regularize the macroeconomic goals and to assure a controlled money supply in the market that results in the steady and sustainable growth of the economy of the country. The monetary policy of RBI refers to the monetary policies set by the Reserve Bank of India which is its central bank along with the use of the monetary instruments that are under the control of the central bank so as to achieve the target set by the monetary act. 

The Reserve Bank of India is responsible for making monetary policies and this responsibility of it to conduct the monetary policy is a mandate under the Reserve Bank of India Act 1934. Thus the Monetary Policy Committee (MPC) established by the central government of India under section 45ZB is actually responsible for setting the interest rate that will help in achieving the inflation targeted by the nation. The monetary policy department of the reserve bank of India aid the MCP in making various monetary policies. The process to reach the decision of the policy repo is mostly influenced by the stands of the primary stakeholders in the economy and the analytical work carried out by the Reserve Bank of India. 

There is a regular meet-up of the Financial Market Committee (FMC) to review and keep a check on the monetary liquidity conditions in order to make sure that the operating target set by the monetary policy stays near to the repo rate policy. 

Before moving further with the article which is based on “What is RBIs monetary policy” and “instruments of monetary policy”, let us have a brief look at the key takeaways from the monetary policy of the central bank of the nation. These are as follows:-

1. Monetary policy is actually the monetary actions taken by the central bank using the monetary instruments that are strictly under the control of the central bank in order to control the money flow to assure sustainable and steady economic growth.

2. The monetary policy has been broadly classified into two parts, namely, contractionary and expansionary. 

3. The tools that are subjected to the credibility of the central bank policies are direct money lending to the other banks, bank reserve requirements, open market operations, managing market operations and unconventional emergency lending programs.   

Understanding Monetary Policy

The monetary policy incorporates the drafting, announcements followed by the implementation of the plans and the course of action that is decided by the Reserve Bank, currency board or other equally authoritative competent monetary firms whose main aim is to control the quantitative money flow within the market and creating the channels by which the money will flow into the economy. The main objective of the monetary policies is to control the macroeconomic conditions such as inflation, consumption, growth and liquidity which is done by managing the interest rates and the money supply in the economy. Broadly the macroeconomic condition of a country is controlled by regulating some of the major factors such as revising the interest rate, adjusting the foreign exchange rate, selling and buying capacity of government bonds and altering the required amount of money that all the banks need to hold as a reserve. 

As the monetary policy development in form of the outcomes of the meetings conducted by the monetary policy-makers of the country have a direct and huge impact on the economy of the nations and directly affects the industries that belong to a definite sector, thus the investors, economists, analysts and the financial experts await eagerly for the announcement of the monetary policies at the beginning of the financial year of a nation. These policies have a very serious and long-lasting impression in shaping the economy of a particular country.  

The base of all the monetary policies that are created by the financial institution is based on various inputs gathered from various resources. Some of the specific macroeconomic features that are taken into consideration before modifying or incorporating any monetary policy are the Gross Domestic Product (GDP) of the country, the inflation or deflation in the growth rate of the private and public sectors (including specific industrial sectors), geopolitical developments that have taken place with respect to international markets like trade tariff or oil embargos. 

The authorities in concern with the policymaking also take into consideration the concerns raised by groups representing the industries and businesses, survey results held by the reputed financial organizations and monetary growth inputs given by the government sources or other equivalent reliable authentic sources.

Objective and Goals of Monetary Policy

The goals that are set by the RBI for the monetary policies are as follows:-

1. The Reserve Bank of India act (1934) was revised in the year 2016 in order to create a statutory base of implementation of the flexible monetary inflation in concern with the targeting framework.

2. The revised Reserve Bank of India act (1934) empowers the government of India to set the inflation target of the economy with the inputs and advice of the Reserve Bank of India once every five years. Thus from the 5th of August of 2016 to the 31st March of 2021, the central government of India has been notified of the 4% inflation in the consumer price index (CPI) as mentioned in the official gazette. The upper tolerance limit is set at 6% and the lower is set at 2%. 

3. The factors that the central government has listed and notified to be the major reasons for the failure to achieve the set inflation target that needs to be eliminated are, for the consecutive three quarters either the average inflation crosses the upper tolerance set for the inflation target or the average inflation is lower than the lower tolerance of inflation target.

4. Before the Reserve Bank of India act (1934) was revised in the year 2016, the flexible inflation targeting economy was mostly governed by both the central government and the Reserve Bank of India under the agreement on the monetary policy framework till February 15, 2015. 

The objectives of the monetary policies that are set by the central government and the Reserve bank of India are:

1. The economic development of the nation should be manifested by also emphasizing on price stability in the market. Thus, the central government aims at creating an environment that provides a framework for the swift and efficient running of the monetary project within the economy without fluctuation in the price. This implies that the monetary project must be supervised while maintaining price stability in the market.

2. One of the primary functions of the RBI is to monitor and channelize the control expansion of the credits offered by the bank and the money flow within and out from the bank. The RBI needs to keep a close tab on the credit requirements in a particular financial season without disturbing the output.

3. The main aim of monetary policy is to restrict non-essential fixed investments so as to promote an increase in the overall productivity of the investments.

4. The excessive stocking of the products results in the expiration of the shelf life of the product and it ultimately weakens the economy. Thus the primary objective of the monetary policies is to keep a check on the over piling of the inventories while carrying out the essential functioning of the economy. Thus the primary objective of the central government along with RBI is to design the monetary policies to avoid over stalking the products and avoid idle money in the organization. 

5. One of the independent targets of the monetary policy is to pay special attention in order to promote constant export and to facilitate trading within and outside of the country.  

6. The policy of the reserve bank aims at equal distribution of the credits to all the economic sectors that include all the social and economic classes prevailing in the economy.  

7. Another primary aim of the monetary policies is to assure the efficient functioning of the financial sectors by incorporating structural changes in the economy like deregulation of the interest rates, easy operational restraints in the credit delivery system, to design new financial instruments for the introduction of new money markets, etc.     

Types of Monetary Policy

Monetary policies are categorized broadly into two types:-

1. Expansionary: During the period of recession or economic slowdown, when the country faces huge unemployment because of the same, the economic policy aims at boosting the economy by expanding various financial activities. The monetary policy primarily includes the lowering of the interest rate to encourage more spending of money and making the money-saving schemes more affordable for the general public. Thus as the money supply in the market increases, it attracts more investments and more spending by the consumers. 

2. Contractionary: when there is a sudden rise in the money flow in the market resulting due to the increase in the money supply, the inflations go up. Due to the hyped rate of inflation, the cost of living increases as the prices of all commodities rises and the cost of running a business also rises. In that case, another primary monetary policy is to raise the interest rate in order to cool down the economy. Though this results in the minimum money flow in the market that gives rise to unemployment, it becomes a necessary step to reduce market inflation.   

Instruments of monetary policy

The instruments of monetary policy are as follows:-

1. Repo rate: The fixed interest rate at which the overnight liquidity of the money is provided to the other banks by the RBI against the collateral of other security agencies and the government under LAF.

2. Reverse Repo Rate:  The fixed interest rate at which on an overnight basis the liquidity of the money is absorbed from the other banks by the RBI against the collateral of other security agencies and the government under LAF.

3. Liquidity Adjustment Facility (LAF): LAF comprises the term repo auction as well as overnight repo auction. The main objective of Repo is to establish an interbank term money market that interns help in setting a mark for loan prices and deposits that results in better transmission of the monetary policy.

4. Marginal Standard Facility: with the help of this monetary policy instrument the commercial banks are facilitated to borrow the overnight liquidity money from the RBI by dipping the Statutory Liquidity ratio profile of their own up to a limit against the penal rate of interest.

5. Corridor: The corridor of the bank is determined by the repo rate and the Marginal Standing Facility.

6. Bank Rates: It is the monetary rate in which the Reserve bank has agreed to buy or rediscount on the ills of exchange or other such equivalent financial papers.

7. Cash Reserve Ratio (CRR): the daily average monetary balance that the other commercial banks need to maintain with the RBI as a percent share of its Net Demand and Time Liability (NDTL) with that of RBI that it informs the banks from time to time through the Gazette of India.

8. Open Market Operations (OMO): OMOs are inclusive of both the sales and the outright purchase of the government in order to inject or absorb the durable liquidity as per requirement.