Goseeko blog

What is monetary policy?

by Team Goseeko

Monetary policy refers to the actions undertaken by monetary authority of a country to control money supply and achieve sustainable growth. In India, the RBI issued monetary policy to control the credit capacity of commercial banks. In other words, monetary policy is a modification of the supply of money, i.e. “printing” more money, or decreasing the money supply by changing interest rates or removing excess reserves. This is in contrast to fiscal policy, which relies on taxationgovernment spending, and government borrowing.

The objectives of monetary policy are-

  • Firstly, to control inflation.
  • Secondly, it reduces unemployment.
  • Further, it promote moderate long term interest rate.

Classification of monetary policy

Figure : Classification on monetary policy

a) Quantitative credit control

  • Different quantitative credit control methods are-
  • Bank rate:  Firstly, it is the rate at which commercial banks discounts and rediscounts the commercial bills with the RBI.
  • Open market operation: Secondly, under this method, the RBI purchase and sells treasury bills in the money market on behalf of the Government to control the short term liquidity of the country.
  • Variable cash reserve ratio: Further, it is of two types-
  • Cash reserve ratio: It is the proportion of time and demand liabilities of commercial banks kept with RBI in the cash form.
  • Statutory liquidity ratio: It is the proportion of time and demand liabilities of commercial banks kept with RBI. It is in the form of gold, silver, precious metal, government securities etc.

b) Qualitative methods

  • Different qualitative credit control methods are-
  • Margin requirements: It is the difference between loan amount and market rate of securities.
  • Credit rationing: Under this method, RBI limits the credit to commercial banks depending on their area of lending.
  • Regulation of consumer credit: The RBI directs the commercial banks to carefully verify the borrowers’ financial background.
  • Moral suasion: Lastly, it is request to the commercial banks by the RBI to follow the rules, regulations, policies and directions of RBI.

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