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Amity School of Business
Monetary Policy
Gaurav Shreekant
What is Monetary Policy?

• The term monetary policy refers to actions taken
by central banks to affect monetary magnitudes
or other financial conditions.
• Monetary Policy operates on monetary
magnitudes or variables such as money supply,
interest rates and availability of credit.
• Monetary Policy ultimately operates through its
influence on expenditure flows in the economy.
• In other words affects liquidity and by affecting
liquidity, and thus credit, it affects total demand
in the economy.
INSTRUMENTS OF CREDIT CONTROL
• Quantitative Measures
• Qualitative Measures
Quantitative Measures Amity School of Business
• Legal Reserve Ratio

• Bank Rate Policy
• Open Market Operations
Open Market Operations (OMOs)

• OMOs involve buying (outright or
temporary) and selling of govt securities
by the central bank, from or to the public
and banks.
• RBI when purchases securities, pays the
amount of money by crediting the reserve
deposit account of the seller’s bank, which
in turn credits the seller’s deposit account
in that bank.
Bank Rate Amity School of Business
• Standard rate at which bank is prepared to buy or

rediscount bills of exchange or other commercial papers
eligible for purchase
• The rate of interest charged by central bank on their
loans to commercial banks is called bank rate(Discount
rate).
• An increase in bank rate makes it more expensive for
commercial banks to borrow . This exerts pressure to
bring about the rise in interest rates (lending rates)
charged by commercial banks on their lending to public.
This leads to a general tightening in economy.
• Whereas decrease in bank rate has the opposite effect
and leads to general easing of credit in the economy.
RESERVE REQUIREMENTS
• The reserve requirement (or required
reserve ratio) is a bank regulation that sets
the minimum reserves each bank must
hold to customer deposits and notes.
These reserves are designed to satisfy
withdrawal demands, and would normally
be in the form of fiat currency stored in a
bank vault(vault cash), or with a central
bank.
RESERVE REQUIREMENTS
• Thus central bank makes it legally
obligatory for commercial banks to keep a
certain minimum percentage of deposits in
reserve.
• These are of 2 types:-
• Cash reserves
• Liquidity reserves
CRR Amity School of Business
• Banks are required to maintain a certain

percentage of their deposits in the form of
reserves or balances with the RBI
• It is called Cash Reserve Ratio or CRR
• Since reserves are high-powered money
or base money, by varying CRR, RBI can
reduce or add to the bank’s required
reserves and thus affect bank’s ability to
lend.
STATUTORY LIQUIDITY RATIO

• Statutory Liquidity Ratio (SLR) is a term used in
the regulation of banking in India. It is the
amount which a bank has to maintain in the
form:
• Cash
• Gold valued at a price not exceeding the current
market price,
• Unencumbered approved securities (G Secs or
Gilts come under this) valued at a price as
specified by the RBI from time to time.
STATUTORY LIQUIDITY RATIO

• The quantum is specified as some percentage of the
total demand and time liabilities of a bank. This
percentage is fixed by the Reserve Bank of India. The
maximum and minimum limits for the SLR are 40% and
25% respectively.
• The objectives of SLR are:

• To restrict the expansion of bank credit.
• To augment the investment of the banks in Government
securities.
• To ensure solvency of banks. A reduction of SLR rates
looks eminent to support the credit growth in India.
QUALITATIVE MEASURES
• Credit rationing
• Moral suasion
• Changing lending margin
• Direct controls
CREDIT RATIONING
• More popular techniques in developing
countries because financial infrastructure
is not fully developed.
• A credit ceiling is allotted to each sector
and to each bank
• Because of its non interest nature, suitable
for controlling Islamic banks.
• Issue of Penalty
MORAL SUASION
• Informal contacts, consultations, meetings,
to explain position of central bank on
various issues.
• It implies the central bank exerting
pressure on banks by using oral and
written appeals to expand or restrict credit
in line with its credit policy.
CHANGING LENDING MARGIN

• The difference between the value of
mortgaged property and the amount
advanced as loan is lending margin.
• The central bank is empowered to change
the lending margin with a view to change
the credit with the banks.
DIRECT CONTROLS
• When all other methods prove ineffective,

the central bank imposes direct controls
with a clear directive to banks to carry out
their lending activity in a specified manner.

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Amity School of Business

What is Monetary Policy?

INSTRUMENTS OF CREDIT CONTROL

• Legal Reserve Ratio

Open Market Operations (OMOs)

• Standard rate at which bank is prepared to buy or

• Banks are required to maintain a certain

STATUTORY LIQUIDITY RATIO

STATUTORY LIQUIDITY RATIO

• The objectives of SLR are:

• Changing lending margin

CHANGING LENDING MARGIN

• When all other methods prove ineffective,

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