4

s1111111 in lnd•a
1. Introduction _ ......
1ne modem economists are of the view that money is not only a medium of exchan · .
means of store of value. Hence, all financial instruments which perform the du?-1 functions 0~e b~t.also
exchange and store of value should be induded in the supply of money. According to this vi rned111ni
th a
of money consists .of a,anency with th~ public, demand deposit of the banks as well as time:'d e sullpt
present some of the economists of the opinion that the supply of money should includ ePosit. At
financial assets which are near substitutes of money like bonds; shares etc. But this broader all thase
supply of money is not practical. In India, Reserve Bank of India indudes in ~the supply O .of.the VJ(
cunency with the public, demand time deposits with the banks and de~sits with the post rnon~,
every economy, suppJy of money is an important policy instrument. The monitory authority of thoffices, In
and its central bank strives to achieve its objectives by making suitable changes in the supply of m e country
price, rate of interest and other economic variables may be influenced by instituting changes in ~ney, the
of money. In ·this chapter,· we shall study the trends of money supply. in India and causes of its .vanatjon.
e

2. Supply of Money in India · ·

In 1977, the ~ e Ba.nk of ln~ia dassifies supply_ of money in four categories. However the
Reserve Bank anaJysJS JS purely accounting or ex-post one, 1t has no explanatory power of its own The
present dassification of Supply of Money may be summarised as follows: ·

G Currency with
Demand Deposits . Other Deposits
s witJ) the Banks with Reserve Bank
v· the Public

r;:l->IL-_____
p
p
L
y
L-J M_i____+_·___De_po_s_its_·_in~P-os_t_O_fli_ce
Saving Bank Account_ _--1

&L-/___ _ _ _____i]
T_im_e_:_e_:°5_anks_its.:..._wi_·th
+___
M_i·____

04L-___ M_3---=---+----''-11-ota_P_•:_t_~_•·_:es_wi_th_ _ ___i]

·-6 \Vo.
 I~
I

. •n Jndia
StJPplY I 69
== currency with the Public + D~mand Deposits of
Banks + Other Deposits with the Reserve Bank • I

:::: Mi + Post Office Savings Bank Deposits

•l"I
._ :::
Ml + Time-Deposits with Banks .
fl(, == Ms + Total ~st Office Del)oslts.

"; iCJ98.-Working Group of Money Supply has re~m~ en~ed_f~llowins!~~ liquidi!Y a~gatesi ., ,
11
~- l'M2 = currency with the Public + Demand Deposits + Other Deposits with RBI + Short TE!!Jll
(1) Tune DepOSits . .• , . . • . ·'., , . ·•· t:
(Zl NM3 = NM3 -t Long-tenn :r~une Oeposi~ + CalVterm Funding from -Rnancial.Jn~tutions _
) L · = NM3 + Postal Deposits __ .
(3 1 - - '' .
,. 14)·1.Ji = Term Money Borrowings + -~ficates of Deposits' ~ Term'~sjts ~-
{p)l.J = 4 + Public Deposits with Non-Banking Financial Compani~ ,.
t Relaf,jqn ;am~ng different concept,s of the Supply of Money in India · _ .
Relation among different concepts of the supply of mo~ey becomes clecµ-from the following table.
Table 1. In India, Relation among M1, M2, M3 and M4 (23-3-2012)
..
Concept of Money · . ... ,.,... crore
Mt '
. 17,33.320 .
(1) Currency with the public
..-. 10,31,310
--- ... -.
+ (2) Omland deposits of banks 7,00,210
+·(3) Other deposits with the Reserve Bank . I -1;790

17,38,360
(1) Mt · 11,33,320 .
+ (2) Post Office savings bank deposit 5,040 . '
Ms 73,47,530
-
(1) Mt -
17,33,320. - • .

- + (2) Time deposits with banks . .

I 56,14,200
r---.. M4 .
73,73,490
(1) Ma 73,47,530
+ (2) Total Post office deposits 25,970 _.
1
· ihe· a (Source: Reserve Bank of ln_d la Bulletin, May, ~012) · .. _
~of~e table shows that M1 concept of m~:mey includes currency with the public, demand
Pubiiciri this and other deposits with the Reserve Bank. It is also called money supply with the public
beca11se theycontext means that sector which consumes money. It does not include government and banks
create money. ·-
 70 Indian Final'lclals .
includes besides M de sits with post office savinQS bank. It is less liquid than dernan ~tri
of banks. l 7<J)05t d det\;.. .
includes besides M time deposits with t,anks. nme deposit is less liquid than demand d
banks and post officie s a ~ bank deposits. ~its of
Mt indudes besides ~. tocal post office deposits•
Of the four concepts of money supply as. given by the_Reserve Bank _of lndi~, M 1 and M3 .,,
significant. M is a narrow concept anti M is a broad concept. We shall study in detail both these co~~
1 3

2.1 Nanvw Concept of Supply of Money or M1 ·

Narrow concept of supply of money is most important for an under developed country like In .
includes the foUowing oonstituents : . dia.11
(1) Cwaws, .wldldie.Public: Currency~ the public contributes significantly to the s
money. It includes .the following elements: (i) Notes in circUlation Oi) Rupee coins (iii) Small coin:~Iof
the agg.egate there is deducted cash with the banks. Thus, currency with the public = notes in cifCUiati of
rupee coins + smallcoins-cesh with the banks. Table 2 shows ~ncy with the public in differenty~~ +
Table 2. Stock of Currency with the Public

Yean Not..la
Cln:alatlon
Rupee Coins S.m all -Colns . Cash with
Banks
Total
cunency With
---
(t crore)

the public
. (1) (2) (3) (4) (1 +2 +3-41
4,169 247 137 186 4,367
1970-71
4,514 1,388 8,479 2;32·:831
2001-02 2,35,408
2,67,478 5,398 1,452 9,003 2,65,325
2002-03
3,19,732 5,832 1,465 12,057 3,14,971
2003-04 ...

3,61,213 5,984 1,464 12,798 ' 3,55,863

2004-0.5
4,21,9'l2 · 6,190 2,564 17,557 4,i3,119
2005-06
1,577 21,293 4,82,906
200(H)7 4,95,938 6,684
7,656 1,567 22,390 5,68,410
2007-08 5,'81,577 ,
8,487 1,567 25,703 6,65,450
2008-09 6,81,099
9,702 1,568 · 32,056 7,67,492
2009-10 7,88,279 ., .

11,018 1;568 35,351 9,14,170

2010-11 9,36,935
j 10,53,790 12,540 1,570 41,300 10,26,600--
j 2011-12
. (Source: Heu.ave -Bank of lnclla Bulletin, May 2012)
· It is dear from the abow table that about most of the currency with the public consistS of not~-~edt
by the-Reserve Bank of India. 1.2 per ~t consisfs of one-rupee coins and notes issued by the gov~ 1
of IndJa and 0.2 per cent of small coins..Jn the last 41 years i.e., from 1971 to.2012, th~ h~.~S5 \ ~e
times maease In the supply of money with the public. In this respect, the largest contributiOJl \ 1 41
currency notes issued by the Reserve Bank of India. Their increase has been 253 times in the .
 ~ -111crec1:w •. . .
'18 es- . d Deposits with the Banks: Demand deposits are created in the banks in two ways :
dtfl (~) ~:,"Passive. The former deposit amounts come into being when people deposit cash in the
~'- and ted by the government or the Reserve Bank of India. It in known as High Powered Mone,.
~-~iscrea red money is that Mob~ ~ich ls Issued _both by the Reserve Bank and
fhe t-{lgh India. It is kept by the_pubhc and the government. The latter deposits come into being
create deposits by sanctioning loans. There is no irnmediate increa_se in the supply of money in
l)al.,.., first kind of deposits because it is already included in the currency lying with the public.
of the the basis of these deposits banks are enab_l ~ to sanction loans whifh result in increasing the
~ •on ney. The effect. of the second ·kind of deposits is that the supply o_f money increases
....Ju of mo
SIJ,l'I",. . tely. It is also call
ed u11:ru1t
-...1•
creati on by the ban
· ks . • - ·. . . . _

()tber Deposits with the Reserve_8-ank: "Other deposits" with the Reserve Bank of India,
.; ~: j:6Se deposits which the ~o~le, i~stitutions like, Ind~~al Develci_P'!;'~rit Bari!<, Unit Trust of India,
~ ~gn governments keep with 1t. The amount of these other deposits IS very httle and the R~e
. . ·no interest on them. : · ·
Ba)1k ~e can know currency with the public and total deposits with the banks in:different years from
ble3below. . . .. . .
tali>,:, :, • Table 3. Currency with the Public and Deposits with the Banks
~ear Currency with Deniand Deposits · ·Other Deposits
Total
the Public with Banks with Reserve Bank
.. '
~i976-n
;, i,l" ..
4,367 2,910 44 7,321
- ~-03 2,71,581 1,98,757 3,242 _ 4,_73,581
~---_2()03-04 3,14,971 2,58,626 5,U9 5;78,716
.2004-05 3,55,863 2,85,154 6,478 · 6,47,495
. :·~ 4,13,119 4,06,388 - 6,869 8,26,375
·2006-07 4,82,906 4,75,687 7,496 9,66;089
- 2007-08 5,68,410 5,78,372 9,054 1:i,55;836
.2008-09 6,65,450 · - . -5,88,688 5,570 i2,59,707
20()()-10 7,67,492 7,17,970 3,839 14;89,301
·..?910-11 9,14,170 7,13,735 3,740 16,31,645
2011-12 10,26,6oo 7,00,210 3,060 17,29,870
(Source: Reserve Bank of India Bulletin, May 2012)
. , Theabove table shows that the proportion of demand deposits with ban~ in relation to total supply
mflfoney. 'In 1970-71 proportion of demand deposits with banks to total supply of supply (M1 ) was 40 per
, and that of currency with the public was 60 per cent. In 2011-12, proportit:>n of demand deposits with
15
•~ 41 per cent and the proportion of currency.with the public is 59 per cent. It is mainly due to the
• ~f banking facilities in the country. After nationali7.atio!" (1969) banking has expanded rapidly in
~--Wrth the expansion of trade and literacy banking tiabi~ ofthe people have changed for the
:i~ es, banks have been giving liberal loans to the people ~cause of the monetary policy of the
 72
: lndlan,F.fnanc1oi S
.
,2.2. Mz Concept of Supply of Money · · ·
.., ll~
,1

· The M2 Concept of Supply of Money indudes the com~nen~0

Office Saving Banks Reserve Banks has admitted that the depos1ts wt .
:.!::;;:
ce
d~its llvith l>o's\··
ving Banks 11./h·
can be withdrawn cheques should be induded in M1 because it is same m natu~ as demand d~c~
with the banks. As such M2 may be defined as M1 and deposits ~ th Post Office Savmg_ Banks Which co its
not be withdrawn by cheques. But this definition In not operation~. The reason bemg that neither 111d
weekly statistics nor the separate statement of the account, non-w1~drawable by ~he~ues is av;u1a~e,
Hence a mOTe J)raCticaJ definition of M2 indudes besides M1 all the Saving Bank deposits with Post Offiees, .
So,

[Mz = M1 + Post Office Saving Banks Deposits!

2.3 Broader Concept of the Supply of Money or M3 '.
Broader concept of the supply of money (M3) indudes currency with the public + Demand DE!J)os-
with Banks + Other Deposits with the Reserve Bank + Post Office Savings Bank deposits + Time Dei>os'.~
1
with Bank. Thus, .-------------:-=--:-i "'
/M 3 = M 1 + 11me Deposits with Banks l
M = Currency with the Public + Demand Deposits with banks + 9ther Deposits with the Resen,
3
Bank + nme Dei>osits with Banks e
The M3 Concept of Money is relatively less liquid than M1 concept,.
Statistics relating to Broader Concept of the Supply of Money or M3 are summarised in table 4.
· Table 4. Supply of Money <Ms) ( f crore)
Year
Ml llme Deposits ·Ms
with.Banks
11) (2)
1970-7J (1 + 2)
7,321 3,637
2001-02 10,958
4,22,843 10,75,512
2002-03 14,98,355
4,73,581 12,44,379
2003-04 17,17,960
5,78,716 14,26,960
2004-05 20,05,676
6,47,495 lf;,,03,954
2005-06 22,51,949
8,26,375 19,03,170
2006-07 27,29,545 -
9,66,089 23,50,004 33,16,093
2007-08 11,55,837 28,62,046 40,17,883
2008-09 12,59,707 35,35,105 47,94,812
2009-10 14,89,301- 41,13,430 56,02,731
2010-11 16,31,645 48,60,111 64,~1,756
I 2011-12 17,29,870 56,14,200 73,44,070
(Source: Reserve Bank of India Bulletin, May 2012)
-
,6
~-..
~
t;ab1£,houiS~Tme0epoaswihBaokshiwie.i.La:isal-lfll!IY~fRD 1970-71 to
~ ~~ f r o m t 3.on aoreto t 56.14.200aoe.. In 1910-71, theamomt
t l ~ l~ 11
!°!-l2~ t~44_~~ie..,_ilmwsedbsj aknost670 limes..lis
ft-IP iS ~ ll tai_,eJ.i DuooghsperiodtmlPdeposis~ i.uwsed bsJ l,544 Imes.
J~ ill tilP£ dl!po5E. power of the banks to ~ loans has also i.:.awsed.. As a Je51Jll maedit
"mooeY bas gone up. :
~ >I}~ cl the of tDOnel/ is smlar to bolh the function cl money i e.. •e llci al
ad-"---- .

:2-1• cc,ncePl of_the Supply Money -

111e~<i~~w;les besades total deposits \Wtt the Post Offices. It is the troadestex>na!pt
-'ti~"~ I nlr~N._=_lls_+_TGfal_Poat words,
_ _Depoai_~__;~:....I
__Ollice .

Or
tc. ==CaiacfwldtdaePllblic + De nddepvsils with the Banks + ·0t1aa
Dq db wlda die R aw B b + Tiae Deposits + Total Dep wits witll-
, - ()llices. 11ae M.. Cwept of lloaey i s ~ less liqllid.

11 eau:epts d Money {lit) and High Powered Money (H) _

8512 saudymg the fadDrs influence money supply it~ essential to understand the ooat..qAs
i ~ tnOOeY or Mi and High Powe!ed Money. Ordinary money to M1~ nms
includes
(i) Cmency with the public and other deposits with the Reserve Bank. In other-words. .

IM = c + DD + ool
1

(Hae C = Cuneno; with the Public; 00 = Demand Deposits with the Bank; OD Other Deposits
tltieP.eeveBank)
t"'1 Powm!d Money is money issued by Reserve Bank and Government of India and held bl/ the
il!ltand birics. It is also c.aled Reaerve Mcmey or Base Money.
. t"'11bw!ed Money or Reserve Money (H} is the sum of (i) Currency held bl/ the public. (ii) Ca-itl
-.W of lie banb, and {iii) Other deposits of the RBI. In the other words
Itt = c+ R + oo + sol ·
' . ll'le!e H = High Powered or Reserve Money; R =Cash Reserve of Banks and OD = Other Deposits
llh! and BD = Banker's Deposits with Reserve Bank) .
Onain1paringaboveequations regarding Mi and High R,wered MooeY, we find that C-and OD~ ·
~tobolh M and Hand that the only difference between.the two is due.to the second component of
1
~DD in M and R in H. This diffmmce is of aucial importmce for the theory of money Supply.
1
.-..cfrorn the preaeuce of banks as producers of demand deposits which are counted as money at par
·&tto be able to produce DD, banks have to maintain R, which is a part of H, produced only bl/ the

/
N
monetary authority and not by banks thernselv~, We
kn
0
Indian Financ; 1
.
that banks can create aedit on the bas· 0
deposits. Its value depends on credit
:
a'
l
the~ !
cash reserves and it leads to manifold inaease m deman d credit multiplier is 10 then the final • Ultipuer.
Suppose the Cash reserves of the banks are f 10 crores an ey supply depends on high pow~icre~ in
demand deposits will amount f 100 aores. Hence,the mon llloney
The money supply is influenced by changes in high powered money. ,, ·

4. Factors Affecting Supply of Money in India

In India; following facto~ influence M1 and M3 monetary siock
t (1) Factor Affecting M, Monetary Stock . . . , .. ,
,..; fact f M stock. currency or cash with the pubhc. It 1s called High Power Mo
- Muan or o 1 monetary 1s th R Bank . • ·· ney
Banks aeate credit on its basis. Large part of this money is issued by . eserve m_ th~,form of
currency notes and a very small part of it is issued by the government of India m the form of ~ms-~d one.
rupee notes. Here we shall mention only those factors which aff~ct ~e -~oney_or paper n~tes ISSUed by the
Reserve Bank. Money issued by the Reserve Bank is actually its babibty. In its transactions, the Resen,
Bank of India deals with government, banks and foreign countri~. The RBI buys securities from
agencies in return for its own money. - ,•
(1) G ~ t The RBI buys securities ~f the government of India and gives over-draft fa~ilities
to the .state governments by issuing them paper currency.
(2) Banks and Commercial Sector: The RBI also transfers paper currency or high powered
money to other banking institutions of the country and commerc:;ial sector in exchange for gov_emment
securities, bills, promissory notes and other assets. -
(3) Foreign Transactions: The Reserve Bank also issues paper-currency to other banks and the
public when it buys from them foreign securities and foreign currency.
All the three factors contribute to the stock of high powered !flOney in the economy.
There is another concept of supply of money concerning the money issued by the RBI and its
liabilities and assets. It is called Reserve Money. Thus,,
Money = Cmrency with the public + other Deposits with the Public + Cash
with the Banks + Bank Deposits with the Reserve Bank

In 1970-71 .
. thevalueofReserveMoneywas f 4,822crores.AsonMarch31 2011 itincreasedto
, 13, 76,770 aores. The main resources of changes in Reserve Money are us follows:
.

Reserve Mone, = Clalme on Government + Claims on Banks and Commercial Sector +

Net Foreign ANeta + Government Currency - Non-monetary Uabillty of the RBI
_ . The Reserve Money varies with a variation in the above ·$0Urces. The main source of the reserve
money is the claim on government.
t (2) Factors Affecting M, Money Stock
Following factors mainly affect M3 money stock:
 ,• . . ly in India
•.· ,. Sr,iPP . 75
M;;,ei; an9e In Net Barak Credit to Government: Estima . . . .. ..
,(~, -~ ctin9 from loans to the government, the clepasits f thte of net:bank.~di~ to; government is
.i1e Wa. ~ins to that ara added other banks' loans to govemo e gtovemment lying with the·RBI·and
, ~ rernp, _' men sectors; that is .
wl13 a.pk Credit to Government = RBl's Loans to th G · ·
~,t ....- th RB e overnment - Government
I oeposits wi I + Other Banks' Loans to the Gove-ent Sectors.
(2)Bank ~redlt to Commercial Sector: U~der it are included Reserve Bank'~ and other Banks'
rnrnerctal sector. ,
ae,:llt to co . ·.
(3) Net Foreign Exchange Assets of Banking Sector: It includes the aggregate of net foreign
. ofthe RBI and other Banks. · .
. . .
·_(4) Government's Current Liabilities with the Public: Current liabilities of th t
·
vnth~ public are also · l d d · ·
me u e m 1t. e govemmen

·(5) ·Banking Sector's Net Non-monetary Liabilities other than Time Deposits with
aob= While estimating M3, net non- monetary liabilities of the banking sector are deducted from the
~te.Thus, .

· M,·:.: Net Bank Credit to Government+ Bank Credit•to Commercial Sector+ Net
Foreign Exchange Assets of Banking Sector + Government's Current Liabilities
with the Public - Banking Sector's Net Non-monetary Uabi~ities

The above analysis <;>f M3 by the RBI presents statistics relating to·the different factors but it does not
i:resent any theoretical analysis of it. C.Onsequently, it is of little help in analysing cause or effect of changes
in .ate supply of money. ·

I 5. Criticisms of the Concepts of Supply of Money

,The main points of criticisms of the concept of money Supply as propounded by the Reserve Bank
are as follows:
.

; ,. Jl) It Is only an Accounting Concept: Since the RBI' s analysis is purely accounting it has no
explanatory power of its own. It is not an explanatory concept. It reveals only actual or expost statistics
money supply. It cannot explain the consequences for money supply of various policy and
IIOn-l)Ohcy autonomous changes such as the open market operations, or changes in statutory reserve
~ ents. etc. ·
- ,.(2) Abaeaace of Theory-of Mon-w Supply: The RBI fourtier analysis is Qnly an exercise ~post
~t .t h~fore cannot serve .the purpose,of ·~ ~eory.. In the absence of a theory 1t 1s not
exJ>.1,in ,the changes in the supply of money. .
(3) ln ,..,_ Credit Creation by Banke· The RBJ?s accounting analyslS adds up components
of biah money (H) and ,ordinary money (M1 ). The result has been a total denial of the fact th~t
~ ·de?endsnot .only on high powered money ~ut on ~dit expansioni In other. wo~~
~the influence of money multiplier process or of thJ aedit aeation by banks on the bas15 0
(R) •It i6 the greatest weakness of this concept.
 ly in India 77.
eYSLIPP " _ .
./J~ , ·· rove it from the above table that it ~~ the effect on the value of money: qut it .has:got no
· We ~n ~hip. Increase in money supply w!ll·result in increase in price level will c;lepend on several·
reJa~~ increase in production. According to Prof. B.N. Pandit, there is a Time Lag one year
spec\ncrease in the money supply and its effect on its price level. During the planning period rate of
::;-:money stJPPly is about 14% while the rate of growth has been 4.1 % and the rate of inflation has

66
t<"' · i. ·J QUESTIONS . '.
t '

I. Long Answer Type Questions . ._

• 1. What is m(@llt by Supply of Money in India? Discuss its-various components.
z. Criti~ ~ine Reserve Bank's concepts of supply of money in lndi~:: . _. _ /
3. Explain the concept of high powered or reserve money. How does it differ from_~rdinary
i •
, . money? ,
4. What is meant by supply of money in India?" What factors influence supply of money?
. . - (KU. ·2009)
5. Explain the various ~urces of change in money supply in India.
6. Describe the theory of Mon.ey Supply in.lridia. (KU.2007)-

111. Short Answer Type Questions

1. Write a short note on the components of money supply in India.
2. What do you mean by currency with the public?
3. What is meant by demand deposits with the banks?
' ,,,. i 'I . •

4. Distin~h between ordinarily money (M 1 ) and high wwered money.

5. Give two factors influencing.supply of money in India.
6. Give two points of criticism of the con·cept of supply of money.

ha L