RBI: The Reserve Bank of India was established on April 1, 1935 in accordance with the provisions of the RBI Act, 1934. RBI was nationalized in 1949 and it is fully owned by the Government of India. RBI was established on the recommendation of the Hilton Young Commission.
RBI’s FUNCTIONS:
1. Issue of currency notes
2. Controlling the monetary policy
3. Regulator and supervisor of the financial system
4. Banker to other banks
5. Banker to the government
6. Granting licenses to banks
7. Control over NBFIs (Non-Banking Financial Institutions)
8. Manager of Foreign Exchange of India (also known as FOREX)
RBI & Monetary Policy:
Monetary policy refers to the use of instruments under the control of the central bank to regulate the availability, cost and use of money and credit.
The main objectives of monetary policy in India are:
Maintaining price stability
Ensuring adequate flow of credit to the productive sectors of the economy to support economic growth
Financial stability
There are several direct and indirect instruments that are used in the formulation and implementation of monetary policy.
Direct instruments:
Cash Reserve Ratio (CRR): The share of net demand and time liabilities that banks must maintain as cash balance with the Reserve Bank.
Statutory Liquidity Ratio (SLR): The share of net demand and time liabilities that banks must maintain in safe and liquid assets, such as government securities, cash and gold.
Refinance facilities: Sector-specific refinance facilities (e.g., against lending to export sector) provided to banks.
Indirect instruments:
Liquidity Adjustment Facility (LAF): Consists of daily infusion or absorption of liquidity on a repurchase basis, through repo (liquidity injection) and reverse repo (liquidity absorption) auction operations, using government securities as collateral.
Open Market Operations (OMO): Outright sales/purchases of government securities, in addition to LAF, as a tool to determine the level of liquidity over the medium term.
Market Stabilisation Scheme (MSS): This instrument for monetary management was introduced in 2004. Liquidity of a more enduring nature arising from large capital flows is absorbed through sale of short-dated government securities and treasury bills. The mobilised cash is held in a separate government account with the Reserve Bank.
Repo/reverse repo rate: These rates under the Liquidity Adjustment Facility (LAF) determine the corridor for short-term money market interest rates. In turn, this is expected to trigger movement in other segments of the financial market and the real economy.
Bank rate: It is the rate at which the Reserve Bank is ready to buy or rediscount bills of exchange or other commercial papers. It also signals the medium-term stance of monetary policy.
